Tietoevry Oyj

OMXH:TIETO

Earnings Call Transcript 2019-Q4

[Kjell Arne Hansen, Head of Investor Relations]

Good morning, everyone, and welcome to TietoEVRY's fourth quarter presentation. My name is Kjell Arne Hansen, and I'm the Head of Investor Relations. Before we start the presentation, I will give a short introduction to today's speakers. In the room with me today, we have our President and CEO, Kimmo Alkio. We have our CFO, Tomi Hyryläinen. And we have Per Hove, a former CEO of EVRY ASA. In the room, we also have Nina Mortensen, the former CFO of EVRY ASA, and she will stay part of the Q&A session after the presentation. And with that, I'll hand it over to Kimmo.

[Kimmo Alkio, CEO & President]

Thank you very much, Kjell Arne, and very good morning to everybody, and a warm welcome to what we believe is a very interesting quarterly announcement. This time, we have a very rich agenda, where we combined the perspectives of the combined TietoEVRY. We will be presenting stand-alone EVRY, stand-alone Tieto. We will be hearing of a full CEO report and CFO view, and we'll then head on towards the integration update and guidance for 2020. So somewhat richer agenda than a typical quarterly performance report. As we now begin the perspective on end of year performance. We are all very pleased to report a very strong performance both from EVRY and Tieto perspectives, and also to report that the full integration is well on schedule. And this, we will naturally be opening up throughout this presentation. Very practically short summary on the kind of the highlights of both companies in light and reminding everybody that the merger was completed on the 5th of December. We are well on schedule, as commented regarding the integration. Tieto stand-alone revenue growth, 2%; adjusted operating margin over 13%; and very strong performance by the Hybrid Infra business. EVRY stand-alone revenue growth of 4%; adjusted operating margin over 13%, all supported by a really strong order backlog and overall performance in Financial Services. Furthermore, we are naturally bringing forward the Board's proposal for dividends of EUR 1.27. For the combined TietoEVRY, it is also good to confirm the main strategic drivers which, for the recent period, have been very consistent for both companies, thus, very straightforward to actually confirm for the merged TietoEVRY. The extensive attention for driving the competitiveness of Nordic enterprises, the Nordic society and the Nordic public sector.We believe we have a very strong value proposition to our customers and the markets around Digital Consulting and cloud services to actually support the renewal of our customers' businesses in reaching their strategic objectives. Furthermore, we have avenues for international expansion, specifically through our software businesses from the old Tieto side, the Industry Software units, and Financial Services for -- from the combined EVRY and Tieto perspectives. And furthermore, the well-recognized product development services with its already global customer base and global expansion strategies. With this in mind, it is also good to confirm what we believe a very good fit in terms of how the market is developing and the service portfolio of the combined TietoEVRY comprising of the businesses around digital consulting, the Cloud & Infra, industry-specific software and Financial Services Solutions, which actually make up the roughly 80% of the combined company's business in the Nordic countries. And then we have, in international markets, the combination of industry-specific software, Financial Services and PDS. Over time, we naturally do anticipate that the greatest growth opportunities over time will also be supported extensively by the growth opportunities outside the Nordic countries. As always, good to confirm the perspective on the market. We do not foresee significant changes in the attractiveness of the market. As commented over the last several years, the market for -- innovation market for helping customers to renew their businesses is enabling a great deal of innovation, and we continue to foresee the Nordic IT services and software market to continue to grow approximately 2% to 3%, as we have predicted in prior years. The market drivers, by nature, continue to evolve. A great deal of investments are being directed into new data -- data platform, data-science-centric innovations, cloud services, combination of private and public cloud, coupled with multi-management capabilities as well as end-to-end automation are being -- are becoming the main market drivers in the recent few quarters and, we believe, very importantly, for the year 2020 as well. Not forgetting the utmost importance for our customers -- ensuring our customers' business continuity and efficiency improvement that -- which will continue to be very important, thus, the relevance of Managed Services, including managed infrastructure services. Managed application services play a fundamental role and a value driver in the industry. We do provide, especially now as combined TietoEVRY, a great opportunity for tech and business professionals around the world, both in the Nordic countries and in our global operations covering important units and operating entities in India, in China, in Czech, in Poland and the Baltic countries. We have a value-based and a culture built on Nordic heritage, which promotes extensively openness, trust and diversity. We do believe this is a foundation for value and trust creation towards our customers and being able to create a great learning environment for 24,000 professionals, being very important in today's competitive marketplace.We're also pleased to reflect that we recruited over 4,800 new professionals during 2019, out of which over -- a bit over 2,000 in the Nordic countries. The importance of inclusion and diversity especially in terms of the younger workforce continues to increase in its importance, and we are very pleased that both companies have done extensive work in terms of inclusion and diversity, and we actually have an opportunity to be in the absolute forefront and leading edge of the industry in promoting inclusion and diversity. All intended to create a great work environment, creating a more and more competitive TietoEVRY as we move forward. Next, very briefly, the official reported financials, recognizing that EVRY numbers are consolidated since the formal approval of 5th of December last year. Fourth quarter revenues, technically speaking, EUR 543 million; EBIT, EUR 31.5 million; and adjusted EBIT, EUR 71.4 million. More relevant will be to shift over to distinctive view performance summaries of both EVRY and Tieto. When we take an aggregate view of the stand-alone performance before we go to the respective companies' more traditional quarterly reports, a couple of main highlights. First of all, from the management standpoint, it is very positive to see that both companies have had strong full second half of 2019 performance. This is especially visible in Tieto's case whereby very significant operational and strategic renewal took place in the second quarter of last year, thus, supporting, from a Tieto standpoint, growth of 2%, kind of in line with our own expectation, not exceeding by any means; adjusted EBIT of EUR 57 million, 13.5%, so ending a strong 2019 with that fourth quarter performance. Similarly, for EVRY, solid growth, good growth of 4%; adjusted EBIT, 13.4%; and both companies ending 2019 with a really healthy backlog, thus, supporting our objectives moving forward. Next in the agenda, we'll move over to Tieto stand-alone performance, I'll run that before handing over to Per to similarly take a view on performance of EVRY. For Tieto, healthy growth in infra -- in Hybrid Infra and Industry Software, with 5% and 4% growth, respectively. We did anticipate the continued adjusted operating margin improvement, over 13% driven, as commented earlier, by very strong performance of Hybrid Infra.In a minute, I'll talk through the distinctive performance of all the businesses. And also throughout the second half, which was briefly reflected upon, the execution of the strategy enabled good performance third and fourth quarter, which also drove the efficiency program for the company, thus, ending -- 2019 is taking place with a competitive cost base given the full efficiency and restructuring and operating model change program that was executed starting Q2 of last year. Very briefly, a perspective on Tieto's longer-term performance, as usual, at the end of the year we tend to do. So we continued a sustainable positive improvement in all key measures. On the left-hand side, customer experience and employee engagement, clear continued improvement in employee engagement into really competitive levels; customer experience side, after meeting our new record a year ago, we stayed roughly flat on the customer experience side and being at a competitive level. Continued improvement in the trajectory of the development of adjusted EBIT, up to EUR 182 million and, furthermore, continued healthy cash flow generation. And as highlighted also on the top right corner, continuation of base dividend increase, which has been our prime principle over the last 5- to 6-year time frame. As usual, very briefly, given that the aggregate numbers for Tieto have been mentioned a couple of times, just highlighting revenues, EUR 423 million for the fourth quarter; growth in local currencies, 2%; the adjusted EBIT of 13.5%; the reported EBIT of EUR 31.9 million, being 7.6%; and highlighting indeed the adjusted items of EUR 25 million, which comprise of the integration and M&A-related costs, as very much anticipated when the merger actually took place last summer. The graph on the right side well signifies the planned and fairly well-executed improvement in profitability both for the third and the fourth quarter. Next, I'll talk through the summaries of each business. I'll begin with Digital Experience. While the group performance in aggregate was good, we -- Digital Experience business for Tieto, clearly in the fourth quarter, did underperform. Thus, we do have clear room for improvement and do firmly believe this will also be bouncing back during 2020. Revenues actually down by 4% in local currencies, actually 4 percentage point impact from the large customer insourcing and the technical change of the joint venture, one important factor. Other factor in one of our practices, somewhat lower billability in the fourth quarter, thus, the adjusted EBIT being 12.7%. This is not -- neither in revenue terms nor in profit terms at the level that our very clear longer-term plans call for. Furthermore, the anticipated adjusted operating margin for the first quarter is anticipated to be below the level of Q1 2019, whereby actually Q1 last year was actually quite strong at approximately 15% adjusted EBIT level. Then into our third and fourth quarter, real success story of the businesses, Hybrid Infrastructure as a business, 5% growth in local currencies, supported both by the new technologies around private cloud, uplift in our cloud growth by 20% in revenue growth and also our traditional, more legacy type of infrastructure services remained actually flat, point being that successful add-on revenues and add-on business conducted throughout fourth quarter. Also worth mentioning naturally, Security Services revenues up by 17%, also signifying the longer-term investments on Security Services that the company has conducted. With this in mind, the strong improvement also in profitability, naturally supported by delivered growth, actually lower quality cost, thus, the quality improvement has been well executed throughout the year. And the efficiency measures were highly impactful in the case of the Hybrid Infra business. The adjusted EBIT margin is anticipated to be above the level of Q1 of 2019. That's more or less self-explanatory given the base of Q1 '19 and the exit rate -- strong exit rate and momentum at the end of fourth quarter of '19. Our Industry Software business, fairly okay growth of 4% in local currencies. We have many businesses performing well both in terms of growth and profitability, highlighting the growth of health care solutions, also the case management as well as oil and gas software suites, so many businesses performing at a very good trajectory. We do highlight the ongoing technological renewal of the SmartUtilities software suite, having deserved somewhat higher investments also in the fourth quarter. It's an indirect signal naturally that once we overcome the investment period of SmartUtilities, we do expect fully that the Industry Software attractiveness will be well accretive for the company. Would also like to highlight that the SmartUtilities packaged software development and customer implementation scope are larger than originally anticipated and will require somewhat increased investments throughout 2020. The EBIT margin for Q1 is anticipated to be at the level of Q1 2019. Product Development Services, which has been a good success story over the last-couple-of-year time frame, are delivering 7% growth in local currencies in the fourth quarter and the adjusted EBIT being 10.1%. We continue good volume development with the largest key customers around radio and 5G, development and expansion into adjacent sectors, which we naturally have talked about in prior quarters as well, including the automotive segment. So I think the Tieto brand and PDS work around automotive as kind of self-driving technologies is becoming well recognized. We actually do anticipate the first quarter adjusted EBIT margin to be below the level of Q1 2019, the background being that we had, I would call it, temporary bench at the end of the fourth quarter that has existed in the beginning of the first quarter as well. With this in mind, as commented, first quarter margin anticipated to be a bit below prior year. As usual, brief commentary also per country. Finland, country growth of 2%, very strongly supported, driven by health care, good success and demand in cloud services and also strong performance in the public sector. And the Digital Experience business was clearly affected, as was the case in the third quarter, by a large customer insourcing. And the impact of this we expect to be over with as we enter second quarter of 2020. Sweden, growth of 1% driven by Hybrid Infra, of 4%; while negatively impacted by the Industry Software, very specifically on the Tieto SmartUtilities and the additional work items in that domain. Norway, growth, 8%; growth across all businesses, strongest being in both Hybrid Infra and the Digital Experience. So this concluded a bit traditional Tieto perspective. Glad to hand over to Per to, similarly, traditional way of reporting on the EVRY performance. Per, over to you.

[Per Kristian Hove, Former Group Chief Executive Officer]

Very good. Thanks so much, Kimmo. Really pleased to follow up with EVRY stand-alone performance for Q4. The highlights for the quarter was very strong growth, 4%, and corresponding EBIT margin of 13.4%. I will get back to Financial Services, but they delivered a very strong quarter, both revenue-wise and profit-wise. I'm also pleased to say that the strategy we have followed now for a couple of years with service mix change to Consulting and Applications still works, and we have very, very good growth in both areas. When it comes to Sweden, we have seen for the third quarter in a row a very positive development, even though the profit level still need to be improved going forward. We have had a slightly higher cost related to our IBM operations in Q4 than anticipated, basically in connection with quality and the legal arbitration track. We'll get back to that later as well. So if we look at the performance by business area. We see a very strong performance by Norway with good organic growth and -- both top line and profit-wise. We see Sweden getting back to -- on track with 7.1%. I'll get back to Sweden as well. And as we mentioned, Financial Services, with strong performance in Q4. And overall for the EVRY group, we delivered 1.7% organic growth year-over-year. As we have talked about in most of our presentations, our focus has been predominantly on Consulting Services and Application Services. And we have had a flat ambition on Digital Platform Services. Fulfillment is declining. And if you take out Fulfillment off the full year growth numbers, we hit 3.4% year-over-year growth in EVRY asset group. Our anticipated Q1 in 2020 will be at the same level as Q1 in 2019.And just to focus a little bit more on the service mix change, we see that from '18 to '19, we have increased both Consulting Services and Application Services as part of the total revenue and corresponding declining portion of the total revenue on DPS and Fulfillment Services. We -- I talked briefly about Sweden. And as you can see here, we have had margin improvements both in Q2, Q3 and Q4 for Sweden. Though the level is still underperforming, but the development is very, very positive basically driven by Consulting and Application Services in Sweden. Last but not least, I would like to point to Financial Services. They have a record-high backlog ending 2019. The total contract value closed in Q4 was EUR 300 million, also record high. And the confidence from our customers that we are on the right track with the next-generation core and payment solutions seems to be very, very solid in the market. So with that, I would like to hand over to Tomi and digging into some more details.

[Tomi Hyryläinen, Chief Financial Officer]

Thank you, Per. So good morning, everyone. We will start from Q4 highlights. So I'm very pleased with the strong fourth quarter result of TietoEVRY. Both ex-Tieto and -EVRY delivered strong revenues, profitability and cash flows. The reported profits were impacted by relatively large adjusted items primarily due to the merger and integration costs. I will talk more on the adjusted items later in the report. As the merger was completed on the 5th of December, we have prepared preliminary purchase price allocation for the transaction. I will briefly walk through that one as well. As TietoEVRY is adopting a new operating model, our reportable segments will change. Currently, we estimate that we will be able to report the new segments with restated 2019 numbers in Q2 or Q3. Until then, we will be reporting TietoEVRY using the same structure as now in the Q4 report, which consists of 4 prior Tieto segments and EVRY reported as one segment. The synergy planning is progressing well, and we will be giving you quarterly updates on the progress. I will give you situation currently later in this report. Long-term financial ambitions will be given in the next CMD, which we anticipate to arrange 1 to 2 quarters after the change in our reportable segments. Moving into debt and cash flows. So the table above shows the quarterly net debt/EBITDA development of Tieto and for Q4 '19, TietoEVRY combined. We will start from net debt/EBITDA of 2.7x. This is calculated by combining 12 months of EBITDA of EVRY with Tieto's EBITDA. As communicated earlier, we aim to reach the net debt/EBITDA of below 2x in the coming 2 to 3 years. This target is well supported by our continuous profit improvement agenda, strong cash flows and a good balance between dividends and deleveraging. The table below shows the quarterly operating cash flows of Tieto and for Q4 '19, TietoEVRY. The Q4 cash flow overall was strong and was driven by positive working capital development and favorable working day impact, meaning that the year didn't end in a weekend. Q4 comparison to prior year is impacted by EUR 14 million of IFRS 16 impact and EUR 40 million of EVRY cash flows. If adjusted to Tieto stand-alone, the Q4 cash flow would be at EUR 74 million, which is approximately EUR 7 million below the Q4 '18, however, still at a very good overall level. As the merger was completed on the 5th of December, as said, we performed preliminary purchase price allocation. The allocation resulted in a goodwill of EUR 1,556 million and identified intangible assets of EUR 260 million, consisting of in-house developed software, customer relations, EVRY brand and order backlog. The amortization from these allocations is approximately EUR 38 million annually. As mentioned earlier, the reported EBIT was impacted by relatively large adjusted items. For Tieto stand-alone, the adjusted items for the full year 2019 amounted to EUR 61 million. This primarily related to restructuring costs from the 2019 efficiency program and merger and integration costs. For stand-alone EVRY, the adjusted items for the full year '19 amounted to EUR 53 million. This consisted primarily of IBM infrastructure partnership cost of EUR 32 million and merger and integration cost of EUR 20 million. The IBM adjusted items included costs relating to the transition and transformation, costs for compensating activities relating to quality and legal costs relating to the arbitration. Synergy planning. So synergy planning is progressing well, and our plans so far confirm the EUR 75 million synergy target. More practically, we have nominated the leadership team and the next layer below and established 11 synergy streams, consisting of countries and service lines and support functions to finalize the planning and drive the execution. We estimate to reach EUR 30 million to EUR 40 million synergy run rate by year-end 2020, and we estimate the integration cost for 2020 to be EUR 40 million to EUR 50 million. We will update you with synergy targets split by category in Q1 reporting and, as mentioned, give quarterly updates on progress of the synergy execution. With this, back to Kimmo.

[Kimmo Alkio, CEO & President]

Thank you very much, Tomi. And let us now move on towards the merger and integration update. As highlighted a number of times, and well-recognized closing took place on the 5th of December. Integration work has been progressing with very high intensity, strong employee engagement, very strong leadership engagement. We have begun the go-live period in early January with the new operating model and further leadership appointments, which I'll share in a bit more detail in a minute. The focus has been extensively on customer engagement, common value propositions to our customers, maintain the eye on the ball in winning market share, in making sure we deliver on high quality as well as on the overall efficiency and speed of integration. Our formal integration management office has been up and running since early October time frame and is a fundamental part in guiding and orchestrating weekly decision-making with engagement actually from both Per and me to really ensure that we gain maximum speed in taking the combined company forward. Wanted to also give a bit of a perspective on what has practically happened as it has been 71 calendar days and 40 -- roughly 45 working days since the acceptance of the merger. And I'd like to cover 5 distinct areas. A couple of words on the integrated structure and leadership. As briefly mentioned, the new operating model for the combined company, naturally, a number of leaders briefed during the fourth quarter, given that Level 1 leadership appointments took place in the mid-October time frame, deployment of the operating model began first thing in January. And mid-January, we also initiated and communicated the next level of leadership appointments, and this will naturally continue at an accelerating pace.And the highlight on the continuum on green color, we believe, as an example on the integrated structure and leadership, we are well on schedule where we intend to be at this point in time. Naturally in this magnitude of a merger, the common processes and systems is a very important enabler of collaboration and scale. Common core tools, actually choices, are being finalized, and we are soon deploying a set of collaboration tools already for the combined population of 24,000 people, also on schedule, as highlighted in the continuum. Integrated go-to-market and service portfolio. Engagement as soon as the merger was approved had begun within specific customers, engaging the customer teams from the traditional EVRY, traditional Tieto side and getting into functioning through the unified customer teams, naturally at an accelerated pace, as well as creating integrated value propositions based on a stronger portfolio of the combined TietoEVRY. Other one important factor within the go-to-market and service portfolio has to do with the Cloud & Infrastructure strategy, Cloud & Infrastructure partnerships. Now there's an example that we had jointly worked on between the management of EVRY and Tieto during the fourth quarter, actually announcing a public cloud partnership with Microsoft, which was just announced a couple of weeks ago, an important stepping stone, actually playing a very active role in the combined public and private cloud domain as such. So momentum being actually accelerated, I would claim, at a really healthy pace. Over time, we shall be revisiting the potential Cloud & Infra partnerships, as we had highlighted already at the point of the merger announcement last June. Employee engagement and cultural integration, very important, very significant degree of cultural similarities identified based on a bit of a research that had been conducted and interviews amongst the employee population. And a lot of attention going into employee onboarding, on the new operating model, the value-based solution portfolio, and the dialogue building, again, on the very strong unified cultural foundation that we have. And as Tomi briefly reflected upon, always in our core scorecard on the synergy realization, planning ongoing per business, 11 distinctive streams up and running, and overall synergy planning realization currently on schedule. Our plan is to come back to you each quarter and reflect on the progress on each of these categories. Next, I would like to go into the more traditional way of also reflecting on the performance drivers, the way from Tieto standpoint we try to be open for many years. So now we have 2 categories. Let me please first highlight the annual very typical performance drivers in our industry and how they relate to this year and our future. First of all, the long-term ambition for TietoEVRY is clearly to grow faster than the market. Yes, we have a year of integration. We will not forget, we will pay attention on the pockets of growth and ways of gaining market share, especially longer term.The adjusted operating profit, we expect to improve from previous year and being supported by the combination of underlying business performance and synergy contribution. As usual, we do anticipate the salary inflation to be a bit over 3%. That has been predictable in prior years, which a bit links to the last point of continued annual productivity improvement, including automation, offshoring and pyramid management, to ensure every year we have greater gains in productivity improvement than any type of salary inflation or any other inflationary components in the cost structure. Point being that keeping the company's cost structure competitive, enabling continued improvement in profitability shall continue to be very high in our agenda. Naturally, there are a few merger-specific performance drivers. Given the year of integration, we anticipate moderate growth during 2020 and also in light of some of the aforementioned discontinued contracts and businesses. As an example, we had shared some of the larger -- not many, but some customer losses during 2019, so influencing, in that sense, somewhat 2020. We anticipate, indeed, a run rate of EUR 30 million to EUR 40 million in cost synergies at year-end. We also anticipate onetime integration cost to be in the range of EUR 40 million to EUR 50 million. And furthermore, on the EVRY infrastructure partnership related to IBM, continuation of costs related to transition and transformation, quality and legal estimated to be between EUR 15 million and EUR 20 million for 2020. And with these considerations in mind, the formal guidance for TietoEVRY. We expect the comparable full year adjusted operating profit to increase from the previous year's level, which amounted to EUR 343.1 million in 2019. So this would conclude the more formal part of the interim report. We did close between the teams of EVRY and Tieto 2019 successfully, momentum in the businesses has been good, integration is on schedule, the value base and energy level in the company is high, and we look forward to 2020 with a great deal of excitement. Thank you very much. Time to move over to Q&A. Thank you.

[Kjell Arne Hansen, Head of Investor Relations]

Thank you, Kimmo. That ends the presentation, and we will now open up for Q&A. So moderator, you can open the lines for questions.

[Operator]

[Operator Instructions] Our first question comes from the line of Daniel Djurberg of Handelsbanken.

[Daniel Djurberg, Research Analyst]

Congratulations to a solid quarter. I would just like to start with a question on the IBM partnership arbitration. You talked about EUR 15 million to EUR 20 million in 2020. Is this -- will this be -- the lion's share come in first half? And should we expect any additional costs for this in -- after 2020, like 2021?

[Kimmo Alkio, CEO & President]

So very good point. So very practically, as highlighted just a couple of minutes ago, the primary driver has to do with the continuation of the transition and transformation cost, and these are expected to end by the end of 2020.

[Daniel Djurberg, Research Analyst]

Okay. And then on Industry Software, can you comment a little bit on the -- you mentioned a decent backlog. If you can say something about the growth outlook in the various industry segments. And also in the SmartUtilities outlook, you press released back then, for example, in, I think, 2017 or something. Do you have -- can you give us any more color on when you expect SmartUtilities to contribute to growth and margins for Industry Software? And also a little bit on the other segments would be great.

[Kimmo Alkio, CEO & President]

Sure. So here, my reflection would be very consistent with the kind of comments from 3 months ago and actually 6 months ago. So actually, all the other software businesses, looking at the Financial Services, looking at the health care side, looking at the public side on the document management, the oil and gas sector, Production Excellence, a lot of good momentum. So that foundation has consistently been good. Now with that said, the length of investments that we need to undergo in the Tieto SmartUtilities, given the shift from the customized legacy or the history into packaged software as an ERP system for utilities, the time frame is clearly longer. And we are highlighting here, which is a slight change to my commentary from 3 months ago, that we anticipate the additional investment level to continue throughout 2020.

[Operator]

And our next question comes from the line of Panu Laitinmäki of Danske Bank.

[Panu Laitinmäki, Senior Analyst]

I have a couple of questions. First one is on the IBM costs still. So are these kind of new ones that you expect, the EUR 15 million to EUR 20 million? And where are these coming from? Because I've understood that EVRY communicated last year that the kind of costs related to change in scope of that contract would end by 2019, and now they are continuing. So why are these continuing? And do you have visibility that there will be no more than this EUR 15 million, EUR 20 million going forward?

[Kimmo Alkio, CEO & President]

Indeed, fully understood the question. So as -- from the EVRY side, and Per may wish to comment here as well, that originally, it was anticipated they would end 2019. It is clear now that the transition and transformation cost will continue 2020, should not continue after 2020.

[Panu Laitinmäki, Senior Analyst]

But is it kind of related to EVRY's own cost? Or is this something that you expand this to Tieto already?

[Kimmo Alkio, CEO & President]

So this relates to the EVRY footprint and work and the partnership with IBM. This does not include any potential development in the combined infrastructure of TietoEVRY.

[Panu Laitinmäki, Senior Analyst]

Okay. My second question is on Digital Experience, where the performance was a bit softer than in Q3. What is kind of your view on this? You mentioned a couple of things there. One, customer are insourcing and then there was a project overrun and all. So like if you look at full year 2020, how should we look at that business?

[Kimmo Alkio, CEO & President]

So first of all, as I'm always very open, so fourth quarter underperforming. A couple of factors that I touched upon earlier. And your summary, thank you, was indeed a very accurate one. Some of the -- where the project cost overruns were high, they should be ending during 2020, some challenges in the billability, these are factors that drove this underperformance. We do not give full year, as you know, guidance per business, I do expect that 2020 will be clearly better. Naturally, I jump now. We will be looking into the full potential of Digital Consulting for combined TietoEVRY. Market is good. We have a strong portfolio. So we will look forward to playing a very active role in that market and also ensuring that we have a proper and competitive cost structure also for the Digital Consulting business.

[Panu Laitinmäki, Senior Analyst]

Just a quick follow-up to that. Is that kind of more company- or your customer-specific than market-specific, the kind of challenges that we saw in Q4?

[Kimmo Alkio, CEO & President]

The Q4 related, I would say, to Tieto-specific challenges.

[Operator]

And our next question comes from the line of Aksel Engebakken of ABG.

[Aksel Øverland Engebakken, Lead Analyst]

Congratulations on the results. I have some questions. Firstly, on the synergies. So you guide on a run rate for the end of the year, but how should we think about the realization of synergies in '20? Should we expect a linear ramp up? Should we expect that initiatives are implemented at the end of the year? So I was hoping can you tell us a little about the impact of synergies in '20?

[Tomi Hyryläinen, Chief Financial Officer]

Yes, thank you for the question. So we -- as mentioned, we will give you updates every quarter of the activities performed, of the realization that we have incurred. If you think about the process by itself, obviously we have now started the planning, so it will be back-end loaded, the P&L impact.

[Aksel Øverland Engebakken, Lead Analyst]

Okay. And then a question on integration costs. So can you give some color on the integration cost in '20, what they will be related to? Is it mainly severance packages? And in addition to that, can you say something about the cash flow impact relative to the PLM -- P&L impact for integration costs and, yes, also for synergies, if there is any time line difference?

[Tomi Hyryläinen, Chief Financial Officer]

Yes. So thank you for the questions. So the integration costs, we expect them to be arising from the same categories as the synergy levers, so delivery efficiency, SG&A optimization, procurement, site and portfolio optimization and obviously advisory costs. Then on the sort of how these will -- you asked of the cash flow of that. If there are restructuring-related synergy costs, those will run typically from 6 to 8 months, so it will not be an immediate P&L cash flow synergy from that perspective.

[Aksel Øverland Engebakken, Lead Analyst]

Okay. So cash flow will lag?

[Tomi Hyryläinen, Chief Financial Officer]

Yes.

[Aksel Øverland Engebakken, Lead Analyst]

Okay. Then I have some questions on the segments. But on Norway, you have a -- for EVRY, you have a very strong organic growth of 8%, but then a material drop in operating margins, so overall, adjusted operating profit is down year-on-year despite 8% local currency growth. Can you say what impacts the margin? And -- is it utilization changes? So what impacts the margin on the consulting side. And also please, for the Tieto unit, can you say on the consulting business, any comment on development in parameters such as utilization, price increases, et cetera? I see that you say wage inflation will be above 3% for 2020 and offset by price increases. Do you expect price increases in the different markets to be at that level on the consulting?

[Per Kristian Hove, Former Group Chief Executive Officer]

Okay, Aksel. This is Per. I'll start answering on -- from the EVRY side. So Norway is predominantly driven by increase in Consulting revenue and Application revenue. Remember that we have onboarded like 200-plus consultants in Norway alone in August, which is a huge investment in Consulting, which normally drag a little bit in bench. So that's an investment for growth, basically drives top line revenue but also some initial costs.

[Kimmo Alkio, CEO & President]

Okay. And if I continued on your second part, on the Digital Consulting, I first comment the Tieto side and then the market. So I've mentioned very openly, Q4, in our -- there are things to fix both actually in Finland and Sweden, where the majority of the Digital Experience business for the Tieto side. So through normal operating fixes on billability, project closures and the likes, the overall performance, industrially speaking, will improve, one factor.Second factor, naturally, the scale for the combined company for Digital Consulting is much greater, so the type of opportunities for gaining additional volume, we think, will be better. We will be looking into the combination of price increases and what I would call normal efficiency measures. Whether we look at tactically on the objectives and target levels for billability, the SG&A structures, the overall cost structure, so as a combined entity, we will be working through -- of setting up the profiles of the businesses that enable both the growth side and making sure that the cost structures are competitive.

[Aksel Øverland Engebakken, Lead Analyst]

All right. I'll do one more before I let other people ask questions. So on the Sweden segment for EVRY, you mentioned that you have some infrastructure deals that impacted the company negatively, some lost renewals. And I would assume that would maybe be the Central Bank deal and the railway contract in Sweden. But can you just confirm if you will have to comp with this in 3 quarters going forward, the lost renewals, so in Sweden?

[Per Kristian Hove, Former Group Chief Executive Officer]

So you're absolutely right, actually, that -- the decline in revenue in Sweden is from these 2 losses, which were in 2018. So most of that is now in the numbers. So I wouldn't expect any further decline based on those 2 contracts.

[Operator]

The next question comes from the line of Christoffer Wang Bjørnsen of DNB.

[Christoffer Wang Bjørnsen, Analyst]

So yes, I wanted to start on the dividend. So I see this company as a strong company following the combination of Tieto and EVRY. But on the other hand, you made a significant cut to the dividend. So I was just trying to get some color on what's the reasoning behind that. And if you're seeing any cows on the horizon that we are not seeing, that kind of makes you do this move, that's my first question.

[Kimmo Alkio, CEO & President]

Okay. So let us take -- indeed, let's take that then first. So the whole philosophy of -- which has been extremely consistent with the inheritance of Tieto with the ambition of increasing the base dividend annually. That has been, is and we believe will be very important, one factor. Second factor, naturally now, given that we have a year of integration and deleveraging being very important, so through these factors, when we think of it and the full belief in healthy cash flow generation moving ahead, it's very prudent that, as recommended by the Board of Directors with full management support, that this EUR 1.27 is a very good way to begin the journey of TietoEVRY.

[Christoffer Wang Bjørnsen, Analyst]

Sure. Okay. And then on the guidance, so you guided for an increase in adjusted EBIT year-over-year. Could you just give some color on what kind of cash conversion we should expect on that increase in adjusted EBIT, except, of course, for the integration costs and stuff like that? How should kind of the underlying cash conversion number be for that EBIT?

[Tomi Hyryläinen, Chief Financial Officer]

Okay. Thank you for the question. We don't guide for the cash conversion obviously for the year, as we haven't now done. From what has been said before, you can read into that some of the adjusted item cost, the cash flow will be delayed, the impact of those costs. And if you bake that into the equation of having a same structure of cash flow generation ability from the company, that would be roughly the answer.

[Christoffer Wang Bjørnsen, Analyst]

All right. And then just one last one for me before I jump back in the queue again. And that's on -- you've recently announced, and you talked about this on this quarter presentation as well, this agreement with Microsoft to start educating around 3,000 people on Azure and stuff like that. So I was just wondering, firstly, on what kind of short-term financial effect we should expect from that. Will these people then be put on the bench and then not be billable for a period, and we should expect headwinds on that side? And then kind of more on the also short term but medium term, as you grow into partnerships like this, should we expect you guys to start reducing the CapEx in your own infrastructure as this would entail you guys moving customers onto another entity's infrastructure?

[Kimmo Alkio, CEO & President]

Sure. Okay. So let's take Microsoft first. So the background being that in the market, we believe it is extremely important to be highly advanced in the -- in orchestrating all relevant customer infrastructure environments, we believe we will be at the leading edge combining the capabilities of legacy infrastructures, private cloud and public cloud. I wanted to start with that because the public cloud partners, it's part of the puzzle of being the best partner, optimizing infrastructures.And with the intent and the appetite for customers to reap the benefit of non-legacy, and we can advise on, depending on the security requirements, that this is between private and public cloud, it's very important we have the global backbone, in this case, with Microsoft. And we have a common game plan in place across the Nordic markets on that way of engagement, even to target segments. So that's a bit of a long answer, but we do not expect this to provide the type of a headwind that you fairly referred to. So that's not the plan, rather looking for tailwind. Then regarding a bit on your second component, to be fair, as I'm sure many will remember that we commented with Per on June 18 already that the belief is that it will take us 4 to 6 quarters from the point of the merger being live that we will rethink the full Cloud & Infra architectures and potential partnerships. And I want to confirm that was the right judgment last summer. And all the main vendors in the world would like to talk to us. And there, we will look at optimizing the customer experience, optimizing the R&D spend of new technologies, meaning through the partnerships, we'll be looking at flexible business model, thus, we will be looking into optimizing the CapEx, OpEx structures of the firm. And that work has been initiated. And naturally, when we make progress, we will then reflect on it.

[Christoffer Wang Bjørnsen, Analyst]

Just a quick follow-up on the infrastructure. You just -- I'm struggling a bit with commentary like that are insourcing headwind on Digital Experience without quantifying it. And then also, you mentioned that for 2020, you see a big contract on Hybrid Infra expiring. So could you just at least on the one for 2020, just give some color on the size of that contract, what is the nature of the contract and the timing of that, why you're not continuing it and stuff like that? Just so we can understand what is really going on at least with the contract.

[Kimmo Alkio, CEO & President]

Yes. Fair point. So regarding the Digital Experience, we had actually, I think, in the last roughly 0.5-year time frame, we tried to openly actually comment that, that has had about a 3 percentage point impact on the Digital Experience growth number. And we expect to overcome, as I commented during the second quarter of 2020, of that impact, JV impact, which a technical change in the DEX impacted by about 1 percentage point.And from the Tieto side, we have only had actually one more significant customer loss during 2019, so we don't have that many moving parts from the, let's say, headwind standpoint. Now I have not summarized -- said anything about great wins that have been gained and the strong backlog. Naturally, we think there's a fairly good balance -- there is a fine balance as we enter 2020. And the only caution I would like to openly mention that we try to be mindful that it is a year of integration, which we will, of course, come back on how much do we think we can kind of put the pedal to the metal in the year of integration versus the long-term ambition.

[Christoffer Wang Bjørnsen, Analyst]

And this big contract that you're losing or expiring, what's that?

[Kimmo Alkio, CEO & President]

On the infrastructure side, with a larger bank. Now as you have seen, the total infrastructure business has been doing absolutely fine.

[Operator]

And our next question comes from the line of Michael Briest at UBS.

[Michael Briest]

A couple for me. Can you talk a little bit about your go-to-market changes, particularly on the Consulting or Digital Experience division? In Sweden, now you've got 2 workforces coming together. How will you sort of bring the teams together, allocate accounts? Is there any compensation packages, incentive packages that need to be changed? And I'm puzzled that you're going to continue to disclose the businesses separately because I would have thought that the EVRY people would be working side-by-side with their Tieto colleagues, and it would be quite hard to allocate revenues from one to the other. Can you talk a little bit about what you're doing at an operational level?

[Kimmo Alkio, CEO & President]

Sure. Okay. So first of all, as we launched the common operating model in -- first thing in January, which is now appointments following at a faster and faster pace. So if we take Sweden as an example in the operating model, Karin Schreil is the Managing Partner for Sweden, all the capabilities of TietoEVRY, whether we think about the customer segments, the customer segment leaders have been nominated, the service line leaders for Digital Consulting, for Cloud & Infra have been appointed for Sweden. The team is already up and running in looking at how to maximize the performance in Sweden for TietoEVRY, one factor. And this is the case for actually Sweden, Finland, Norway and, naturally, for the service lines in combination, one factor. If I may, on the second one, what Tomi commented that we will only report this kind of the old way until we get the full financial reporting up and running according to the new operating model, where everything is unified. If I just continue, as an example, we are not yet opening up the details of Digital Consulting. We will have a typical service practice structure under Digital Consulting that we bring unified capabilities across the markets. Let me please give an example on cloud and analytics. Same practice setup, competence sharing, direct access to offshoring, in a quite a similar way as we have structured in Tieto. So all teams around the world connected not just at the service line, also at the service practice level. And these induction sessions began mid-January, and induction sessions continue as more and more people are onboarded. Next will be Level 3 and Level 4 leaders.

[Michael Briest]

Okay. And then just a couple more. On the synergies, I mean, in the past, when you've done cost cutting, you flagged that a lot of those get eaten up in sort of price competition or salaries. Do you think the EUR 35 million to EUR 40 million is something that comes to your bottom line? Or does some of that melt away?

[Kimmo Alkio, CEO & President]

So we do anticipate, as we've talked about, the EUR 75 million synergies, we will deliver that to the bottom line.

[Michael Briest]

Okay. And then on CapEx and R&D capitalization, I mean Tieto's numbers have been going up last year. And EVRY's historically capitalized quite a lot, especially around the core banking. Can you say what the sort of 2020 expectations on both R&D spend and the amount that will be capitalized will be?

[Kimmo Alkio, CEO & President]

Yes. So our current anticipation is that we will stay at this very similar level as 2019, meaning as a sum of EVRY and Tieto. To be fair, our integration teams, if I may give an example in Financial Services, the full integration and the additional value of the software suites in Financial Services, that integration work is being conducted during the first quarter. So we will get more visibility into also investment optimization as the integration progresses. That was just a bit of background. Currently, we are comfortable commenting that we will be overall at the level of last year. Will we find other avenues or potential efficiencies? If we do, we will then talk about them.

[Michael Briest]

But you mean as a percentage of sales rather than in absolute terms, so the EUR 80 million of R&D would -- which is about, I guess, 4% of sales, would be the same going forwards?

[Kimmo Alkio, CEO & President]

In absolute terms.

[Michael Briest]

So EVRY is not spending on R&D?

[Kimmo Alkio, CEO & President]

So anyway, we -- I think we come back on those separately, but we have a clear view on the numbers. And in EVRY's case, the majority of the R&D spend is actually on the Financial Services software. So the point being that what Tieto has done is -- and thank you for referring to roughly the spend level around EUR 80 million for Tieto, the certain spend level in, especially in the FS unit, we expect this as a combination to be at a very similar level for 2020.

[Operator]

And our next question comes from the line of Sami Sarkamies of Nordea Markets.

[Sami Sarkamies, Senior Analyst of TMT]

I have 3 questions. I think we have already talked about the revenue headwinds at Tieto side going into 2020. What about EVRY side, are there items we should be aware of that could contract during 2020?

[Kimmo Alkio, CEO & President]

I think overall, if I may comment, so as I think Per very well reflected upon on the momentum of the fourth quarter in the back of also a good third quarter and especially looking at the backlog, looking at the development, especially in Financial Services, good top line development in Norway, so I think we are entering the year with fairly fine -- that the direction of the wind is fairly fine. We want to offer prudency given that we have a year of integration.

[Sami Sarkamies, Senior Analyst of TMT]

Okay. And then I wanted to check what's your current view on market growth and at which point do you expect to be growing faster than the market.

[Kimmo Alkio, CEO & President]

So we continue to see the market, as briefly commented earlier, in this 2% to 3% range. The market dynamics fully, as we have discussed in prior quarters as well, of course, the very distinctive dynamics between very traditional infrastructure, very traditional application services, how automation impacts that competitiveness and price erosion, we are quite familiar with that. Very good development on the private cloud side. By the way, we bring that to EVRY customer base immediately on the strong private cloud that has been invested and the payback has been good on the Tieto side. And then naturally go into new domains from customer experience management, cloud and analytics, cloud-native application development, business application side, where Tieto underperformed fourth quarter, we believe the market is absolutely fine. So we will naturally open up these drivers as we get into -- fully into the new setup.

[Sami Sarkamies, Senior Analyst of TMT]

Okay. And then finally, on the productivity measures, are you planning any additional cost measures to offset, for example, salary inflation? Or is everything included in the synergy program for the next couple of years?

[Kimmo Alkio, CEO & President]

As highlighted in the page of the performance drivers on the left side, and Sami, you will remember our discussions from -- over the many years. The point on continued annual productivity improvement, including automation, offshoring and pyramid management, this has been on the agenda of management for about 8 years, every year. This will continue to be in the minds of the management every year to make sure we have continuously a competitive cost structure. Exactly how is it achieved, there are multiple factors on how to get there. We will come back once we make progress. And as you know, we'd rather talk about it when we've done it, not what we are thinking of doing.

[Operator]

And our next question comes from the line of Panu Laitinmäki of Danske Bank.

[Panu Laitinmäki, Senior Analyst]

I just had 1 question on the capitalized R&D costs. You kind of already guided 2020, but where did the increase in 2019 come from? Was it kind of the SmartUtilities? And is it the right way to think of it that as a combined company, if you have flat level, then kind of Tieto costs are coming down year-on-year this year?

[Kimmo Alkio, CEO & President]

So the increase indeed, right assumption, indeed, that the increase had been on the SmartUtilities side.

[Tomi Hyryläinen, Chief Financial Officer]

That's correct.

[Panu Laitinmäki, Senior Analyst]

Okay. And is that coming down in '20?

[Kimmo Alkio, CEO & President]

I think here, we commented a total, let's say, investment level in, some 5 minutes ago, not yet on the component mix of that. We have some more work to do there. But we are fully committed that it is roughly at the level of overall as '19.

[Operator]

And that was the final question.

[Kjell Arne Hansen, Head of Investor Relations]

Unfortunately, we are running out of time, but we will have one more caller and then finish the session.

[Operator]

Okay. Then our final question will come from the line of Aksel Engebakken of ABG.

[Aksel Øverland Engebakken, Lead Analyst]

Okay. I'll just do a short question then, and it will be on the Digital Experience. So in the drop in operating margin, you point to a decline in sales and a significant project overrun in Q4. Is it possible to split up those 2 factors? In terms of contribution to the decline?

[Kimmo Alkio, CEO & President]

Yes, roughly half and half. And these are very specific customer projects. So just to be clear, on the -- project overrun has to do with one specific customer. And the insourcing is one specific customer. And as commented, that implication of that, we should be done with during the second quarter of 2020.

[Aksel Øverland Engebakken, Lead Analyst]

Okay. And one very quick one on outlook for the backlog. So I'm wondering about the renewal plans for any significant contracts for Q1. Do you have any, say, plus-EUR 100 million contracts up for renewal in the near term?

[Kimmo Alkio, CEO & President]

I think we do not have anything specific to comment on potential very large ones. I think at a high level, what Per and I fully feel the momentum is fine. The teams are active, so the -- we try to be super mindful that the activity level doesn't deteriorate due to the integration. If we look at the bid activity level, it's looking quite healthy. I wish not -- we wish not to speculate on the types of contracts. No real need to do so given the healthiness of the backlog and current activity level.

[Aksel Øverland Engebakken, Lead Analyst]

Okay. And just to specify what you mean with moderate growth. That should be understood as below-market growth when you say moderate growth?

[Kimmo Alkio, CEO & President]

So I think we leave it at that. And we'll come back naturally every quarter as we see the progress of that. But I think we would like to -- we would prefer to stay at this level for today.

[Kjell Arne Hansen, Head of Investor Relations]

Okay. That ends today's session. Thank you for all the interesting questions, and to all the listening -- all the ones listening.

[Kimmo Alkio, CEO & President]

Thank you very much for joining, and looking forward to talking with you either short term or latest then after Q1 report. Thank you very much for joining.

[Tomi Hyryläinen, Chief Financial Officer]

Thank you.

[Per Kristian Hove, Former Group Chief Executive Officer]

Thank you.