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OMXH:WRT1V

Earnings Call Transcript 2023-Q1

[Hanna-Maria Heikkinen, executive]

Good morning, and welcome to this results briefing. My name is Hanna-Maria Heikkinen, and I'm in charge of Investor Relations.

Today, our CEO, Hakan Agnevall, will go through the group highlights and segment performance. And after that, our CFO, Arjen Berends, will continue with key finances. After the presentation, there is a possibility to ask questions.

Hakan, time to start.

[Håkan Agnevall, executive]

Thank you, Hanna-Maria, and warm welcome, everybody to, I would say, a positive Q1. We are improving our profitability, which is really good, and we have really good development -- continued a really good development in services.

So order intake overall is up with 26% Q-on-Q. Net sales increased by 19%, and we continue to see the good progress on the services side. So the order intake on the service side is up with 21% and the net sales for services is up by 17%. Also -- and that is, of course, very positive.

The comparable operating results increased by 34%. We are now at 6% and going in a positive direction, supported by good development in services, still burdened by cost inflation.

And cash flow in Q1, it really improved, and we do see a strong continuation for the rest of the year on the cash flow side.

So those are some of the highlights. So fairly positive highlights this call.

The key figures, if you look at our order intake, we are now EUR 1.7 billion, as I said, up 26%. Order backlog, above EUR 6 billion, EUR 6.1 billion, about stable, so to say, and that is still considering that we have ramped up our net sales with 19% to EUR 1.4 billion.

And you see the book-to-bill clearly about 1, EUR 1.19 million, so positive trajectory there. Comparable operating results, EUR 88 million, and we are at 6% improvement from 5.3% previous quarter. Of course, still a way to go to our 12% target.

And if we look at the macro environment, you could say that economic headwinds, they moderate the growth in marine markets. The positive side is that the utilization rate of Wärtsilä key segments are actually improving.

Number of vessels ordered during the quarter, 255, which is a little bit down from 274, the previous year. Continued demand for LNG vessels, improved fleet utilization on passenger travel segment and the growing demand for offshore assets, all those all supported the market sentiment, and it benefits Wärtsilä in our strong segments.

Decarbonization remains the main underlying trend, and methanol fuel is -- we can really see it's gaining traction. Interest in alternatively fueled vessels, relatively stable, around 70, 73 reported orders, which represents about 29% of all contracted vessels.

Cruise, the newbuilding remained limited. And I think the cruise operators there really continue to focusing now to manage the current fleet and the utilization. The positive side that many of the operators is seeing a very strong demand at 2019 level or even beyond 2019 levels. And we see that with high utilization of our installed fleet.

On the energy side, we see solid long-term opportunities. Yes, we do see, however, that fuel price pressure is easing, but it's not over, and there is a volatility. I would say the volatility in the fuel sale price is delaying some decisions in Europe, in Asia, to some extent in the U.S., but U.S. is moving forward in a very good way. The last quarter has brought some relief in fuel and raw material prices, whereas we've seen interesting -- sorry, increasing interest rates have caused some uncertainty.

Natural gas prices decreased from the extreme level of last year, and the outlook looks good. But they still remain high compared to historic level, and there is still volatility in the pricing.

The global energy transition, the investments reached a new high in 2022. And the policy supporting battery energy storage, clean hydrogen has continued to develop during the first quarter of this year.

Demand for energy storage solutions continue to grow. Our market share is -- when it comes to the gas and liquid fuel power plants decreased to 6%. I mean, you see that the market is growing. That -- on the right side graph, that is to a significant extent fueled by some really big combined gas and power plants in China. That is the major growth avenue. And we do see a continued -- we do have a positive outlook on the mid- to long-term transition and how it will affect Wärtsilä, both the thermal business and the battery storage business.

Order increase -- order intake increased by 26%. Equipment order intake increased by 31, and service order intake increased by 21%. The strong -- we have a strong order book, and the rolling book-to-bill continues above 1. And I think it's the eighth consecutive quarter where the rolling 12 book-to-bill is above 1. So that is, of course, positive.

If we look at the net sales and comparable operating results, net sales increased by 19%, comparable operating results up with 34%. And if we look at the equipment and services on the sale -- net sales side, equipment net sales increased by 22%. Service net sales increased by 17%.

Now technology and partnership, as you know, Wärtsilä, we are about innovation in technology and services. Our technology and partnerships really a driver for us, and it's all about how we can support our customer in enabling the decarbonization journey.

So some really interesting and exciting examples. We have a new radical derating retrofit solution for 2-stroke engines. So Wärtsilä fit for power. So basically, by this derating and change of the 2-stroke engine, you extend the emission-compliant lifetime of merchant vessels by significantly improving the combustion efficiencies. You can reduce fuel consumption and, therefore, emission with up to 15% on 2-stroke. And that is, of course, a major support for our customer as they look into the CII index on how their fleets will evolve.

Another area is, of course, LNG and how we continue to minimize the methane slip on LNG-fueled engines. We are working together with several companies on the Green Ray project, and that is to develop solutions that minimize the methane slip for LNG engines.

And we will develop technology for low pressure 4-stroke dual fuel engines that will enable methane slip reduction and increase efficiency. And we will also develop an engine technology for 2-stroke engines to further reduce the methane slip from tankers, container ships and so forth. A lot of it interesting technology development in – Wärtsilä these days.

Now let's jump to the different businesses and have a quick look on how the financials have developed for the different businesses. So if we start with Marine Power, we have had a really good development on the services side. Service order intake increased by 15%, and service net sales increased by 18%. And you can also see here how the comparable operating result increased from EUR 30 million to EUR 49 million.

On the positive side, good service performance. Also the Voyage optimization, we have now moved Voyage services into Marine Power. And this is the last quarter where we have Voyage as a unit before we launched the reorg that we have earlier communicated. And we can clearly see that Voyage is going in the right direction now under new leadership and a new context. So that is positive.

On the challenging side, we have an inefficient factory capacity utilization. That is also, of course, a consequence of the transition that we are doing with our manufacturing system evolving test, but also having 2 plants in -- still in Vaasa, so to say. And we are streamlining and we are working. But right now, we are still facing some headwinds from that.

You can also see that we have restated figures, and that is, of course, a consequence of the Voyage integration into Marine Power, and we have restated the 2022 figures. So please be careful when you look at the figures, so you separate what has been restated from what has not been restated.

If we look at the service agreements for Marine Power, it continues a very positive trend. And we talked about it before, moving up the service value ladder. It's really working for us, and net sales from installations under agreements are strongly increasing, as you can see here.

Another exciting example where we move ahead is, of course, on the decarbonization journey. Here we are working on delivering for -- to Celebrity Cruises where we basically will supply our 2 8-cylinder W46 engines capable of operating with methanol as the fuel. And then we will have two 12-cylinder W46, and one W32 with conventional fuel.

We will convert the 46F engines to run on methanol, marking the first ever such conversion for this particular engine type. So it's a very interesting conversion project. The conversion project not only promotes low carbon cruising, but it's adding methanol as a fuel option, reducing emissions, sulfur oxide, nitrogen oxide, in particular matter, in a significant way.

So moving over to Marine Systems. Here on the positive side, the order intake increased. However, the net sales and comparable operating result declined. So if you look at the drivers here for the EBIT, the service is clearly supported. However, we did have cost inflation really burdening the equipment business profitability in Q1. So there you see the negative development.

If we switch to energy, basically all key figures improved. Service order intake increased by 38%. Service net sales increased by 17%, and if we look at the comparable operating results going from EUR 24 million to EUR 33 million. On the positive side, high service volumes, improved profitability on the energy storage business. You've seen it. We are taking it from minus 4% to minus 3% rolling 12. So the trajectory is the right one.

Still, energy is working with cost inflation in the power plant business in the existing order backlog. And it is -- as we talked about before, we still have for this year about EUR 1.2 billion overall for that -- of order backlog that -- of orders that we took before the real inflation accelerated somewhat end of Q1 last year, so to say. So we are still working through this EUR 1.2 billion.

Continued growth on energy storage side, profitability improving, rolling 12 months comparable operating results now at minus 3%, as I said, and you can see the quarterly figures, but you can also see the rolling 12-month development. And you see a clear trajectory, both for the top line and for the profitability.

So good, very interesting energy storage example. This is a 400-megawatt hour storage system that we will deliver to Zenobe, and Zenobe is electrical fleet and battery storage specialist. The first project in the world to deliver stability services using a transmission connected battery, supporting U.K.'s transition to 0 carbon energy network. Basically, converters, inverters that can really form the frequency of the net. So the project comes with innovator inverter technology and combined with our GEMS energy management system.

It's located in Northeastern Scotland. And the project is ideally suited to integrate the nearby offshore wind energy projects in the North Sea. And the storage system will be one of the largest in the U.K. and is expected to be operational somewhere in 2024.

And if we look at the energy service agreements, you can also see the very positive trend moving up the service value ladder, and this is one the many good examples. We signed an agreement with the Brazilian utility, Rio Amazonas Energia, RAESA. And these operations and maintenance agreements provide support for the Cristiano Rocha power plant in Manaus in Brazil.

And this power plant operates 5 -- 50SG engines -- gas engines with a 92-megawatt output. The agreement really strengthens the relationship between Wärtsilä and RAESA. And we already started that journey when we went into a guarantee asset performance agreement in 2019 to assist the plants to run on 100% natural gas. And now we continue this cooperation with this very important customer.

Now if we sum up the development of the different businesses and how they contribute to the group, you can see that the biggest improvement is coming from Marine Power. And -- but also energy is moving in the right direction, so 5.3% to 6% for the whole group Q-on-Q. Comparable operating result increased by 34%.

Arjen, some other key financials.

[Arjen Berends, executive]

Yes. Thank you, Hakan. All right. Operating cash flow was very strong in Q1. Very happy with that. Actually, it was the strongest operating cash flow Q1 since 2010, so really happy with that. Cash flow was supported by both working capital and profit improvement. Just for reference, working capital at the end of last year was [ 179 ]. So clearly, I'd say, down from that.

Net interest-bearing debt, more or less flattish in the quarter. We had EUR 481 million at the end of last year, and now EUR 477 million. Of course, worse than, let's say, what we saw last year in Q1, and that is mainly due to the poor cash flow that we have seen last year for reasons that we also explained in earlier calls.

Gearing, clearly below our target of being below 50 -- 0.50, I mean, at 0.24 right now. Solvency, slightly down in the quarter from 35.3 at the end of last year to now 33.4, and that is mainly driven by the accounting of the dividend into the equity.

Basic earnings per share, positive after a very negative Q1 last year. And of course, good to remind here that Q1 last year included a provision of EUR 200 million for the exit of Russia.

Cash flow on the left side, I mentioned it already, EUR 145 million, very happy with that, definitely a good quarter for Wärtsilä.

On the right side, let's say, the working capital, where are we with working capital and how are we developing it? If you look long-term historical, let's say, working capital to sales ratio, it's about 9%. Currently, we are at 2%, so I would say we are at a good level. Having said that, there is always, let's say, more that we can do on working capital, and we are having a very clear action program to further improve on that one.

So happy with both cash flow and working capital performance in the quarter. Back to you, Hakan, on the prospects.

[Håkan Agnevall, executive]

Thank you. So if we look at the prospects, Marine and Energy, so for Marine, we expect the demand environment for the next 12 months to be similar to that of the comparison period. And Energy is basically the same. I mean, we expect the demand environment for the next 12 months to be similar to the comparison period.

And I know you've seen that we kind of moderated our outlook for Energy a bit. I mean, we moved our view a quarter ahead. And I would say that, depending on some big orders, this might change a bit. I would say the major message, the underlying sentiment and our midterm outlook for energy is still very positive.

So having said that, let's move over to the Q&A.

[Håkan Agnevall, executive]

Thank you, Hakan, and thank you, Arjen. Now it's time for Q&A. [Operator Instructions]

[Operator]

First question on the line. [Operator Instructions] First question is from Max Yates from Morgan Stanley.

[Max Yates, analyst]

I just had -- I guess, keep it to one. I wanted to ask about the energy margin because, obviously, we can see you delivering more on energy storage, which we know is dilutive. So I would have guessed that would have been a drag on margins.

I guess, my key question is really just to understand what has driven that margin higher and whether you could give us kind of any update on how you think about the sort of trajectory of that storage business from 4%. And is there actually the scope, when we look at that margin performance, for storage to be breakeven this year, perhaps already? So I'll start there.

[Håkan Agnevall, executive]

For being a one question, it was a very broad question. But it's very good. So Max, thanks for your question. So I would say what is underlying the profitability improvement in energy and consuming and storage, I mean, services is continuing to grow. It's very profitable, and it's helping us in our profitability journey.

Headwinds, as we talked about, we are still, especially on the thermal side, working with an order backlog, which has been severely impacted by inflation. So that is a headwind, what I would say, major driver of services.

Then if you look at storage, and our message is still the same. Over a few years, we intend to turn this business around and develop it further. And I think the team -- we are executing according to plan, and we are on a positive trajectory. Do you want to complement that?

[Arjen Berends, executive]

No, I think you said it basically as I would have said it as well, actually.

[Operator]

Next question is from Daniela Costa from Goldman Sachs.

[Daniela Costa, analyst]

Can you hear me?

[Håkan Agnevall, executive]

Yes. We hear you, Daniela.

[Daniela Costa, analyst]

Perfect. I'll stick to one as well as a follow-up on storage. I think you said last year, you were minus 4. This year, you're minus 3. I don't know if there's any strong seasonality towards last year. But if we were to assume that not that it was more or less minus 4, then it sounds like your storage business might already be profitable now.

First of all, is that the wrong assumption? Is there any strong seasonality that we should think as we try to model storage? Why this performance lately doesn't get you more upbeat about when you can call for the breakeven in storage given the strong demand there?

[Håkan Agnevall, executive]

So I wouldn't say that this is a super seasonal business. It can be a bit bumpy because it's a project-oriented business. So you can have a shift between a quarter or two. But I don't see it being a strong seasonal business. So that's one.

I would say -- I mean, we are -- were in a positive development of storage, and we said it in the past. Now let's focus on the rolling 12, and we are developing on the right side also with the rolling 12. But I won't get into the quarterly numbers for this quarter. I know you're keen to get that number from us, and I respect that. But let's end it like that. We are developing in a positive way.

[Arjen Berends, executive]

And of course, if I can add to that. We have a few, let's say, key levers, you could say, that we work with to get storage to a better result, okay? Cost leverage is one. Let's say, the volume growth definitely supports. It's also to explore synergies between, let's say, the energy thermal business and the storage business and also, let's say, working on the product cost.

And of course, in the trajectory of profit improvement, it's also a matter of timing, which action kicks in at what point of time. And yes, we saw on a rolling 12-month basis now a very good result in Q1 also due to the actions that we have taken.

[Håkan Agnevall, executive]

And if I may extend on that, I mean, where do we want to build that storage? Where do we want to be strong? How do we want to position ourselves relative to competition? I think there can be critical elements.

I mean, we need to be cost competitive, I think, and I very much alluded to that. And that, of course, clearly, there is a volume component to be cost competitive. But we also have a GEMS platform and the power system optimization. And this is an area where we are -- I think we have a lot of respect from our customer. That's at least what they are telling us. We are a power system company. We continue to invest and evolve GEMS.

I would also say that the customer feedback that we get, our track record of executing on time and delivering in a stable way, it is something that some of our critical customers are looking for. And you also saw the latest announcement. It's not part of the Q1. But the order from Origin Australia. It Is a gigawatt hour project. It says a little bit about the credibility that we are building with our customer base.

I would say another element where we -- I would say that we are a little bit profiling ourselves is on the safety. The thermal safety side with the designs, we passed some of the critical test in the U.S. very, very early. So there are these kind of critical elements in our mix, in our propositions to the customer segments that we want to target.

[Operator]

Next up is Antti Kansanen from SEB.

[Antti Kansanen, analyst]

My question would be on the power plant side. And I mean, you have flagged a quite similar, let's say, mid- to long-term growth outlook for the balancing power as you have with the storage. But obviously, kind of the near-term growth is very different across the two businesses.

So could you talk a little bit about the power plant balancing side? What is kind of curtailing the growth at the moment? And perhaps what is needed for the strong double-digit growth to come through on that market, please?

[Håkan Agnevall, executive]

So if we look at the thermal side, and I would talk about Europe and Asia, where, really, the prices of gas are coming down, but it's still volatile. And that has postponed the decision-making process in Europe, in Asia.

In the U.S., as we've seen, we -- it's very much moving forward. Renewables is growing. The balancing power is needed, both the thermal and the storage. Here, we see -- and this is some specific projects that are sliding a bit in time, like sometimes happen in project business. But the underlying sentiment for balancing is still very strong, and we see a very interesting development going forward there.

[Antti Kansanen, analyst]

And I mean, you mentioned Asia and Europe specifically, but not the U.S. in kind of postponing decision-making. Am I reading this that you're perhaps expecting something larger from that market going into back half of this year?

[Håkan Agnevall, executive]

Well, it's your expectation. But clearly, we see, U.S. is the hottest market if you talk thermal and energy storage. There is a lot of activities there. This is a very important market. But over -- you have to overlay, this is a project business. Things might slide from one quarter to the other.

[Operator]

Next up is Vivek Midha from Citi.

[Vivek Midha, analyst]

Can I follow up on the group outlook focusing on services? So you saw a very strong development in services in Q1 in orders. Do you think you can sustain this level of demand in the coming quarters in service? And do you have any updated view on what percentage of the fleet you might be able to cover with agreements, say, by around 2025?

[Håkan Agnevall, executive]

So basically, I mean, we see, and we have now seen for quite some time a very strong and positive trajectory of our service business. I would say in Q1, there was a little bit of extra because, as you know, in services, there are also different disciplines, and some of them are a little bit more project oriented than other disciplines. And in Q1, we did have some of the project disciplines within services that captured some big orders.

But having said that, still, we do see a positive trajectory also going forward with high utilization. And I talked about us moving up the service value ladder strategy. It's really playing out for us. You could see the agreement curves. We are really supporting -- our customers are moving up the service ladder more into agreements.

And we talked about that before, the renewal rate in our agreements business, both on Marine Power and Energy, is above 90%. So it shows that customer thinks that we are creating value for them. So this positive sentiment continues.

I mean, I won't give any 2025 statements. I just want to take you back to the CMD material, and you know we're going to have a new CMD on the 9th of November this year. But if we go back to the previous CMD, we said that we had a EUR 2.5 billion opportunity in only our conversion of the fossil technology from heavy fuel to gas and then from gas to greenfields. And that is part of -- so it gives a little bit of a sense of the magnitude of the business.

We also communicated that, that was over a 5-year time. It gives a bit flavor, but I won't make any percentage forecast on 2025 or something. I mean, you can also see, if you look at the percentage coverage, I mean, if you go back a year or 2 or 3, we were at 22% on the energy side. I think we are now around 27%, and we do see a positive trajectory.

[Arjen Berends, executive]

And no signs of decline, no.

[Operator]

Next up is Sven Weier from UBS.

[Sven Weier, analyst]

My question is around the EUR 1.2 billion legacy backlog revenues that you have for this year. I mean, is it too easy to deduct the EUR 700 million equipment revenues for Q1 to have what is left over? Or would you be willing to share what's left over of the EUR 1.2 billion for the remainder of the year?

[Håkan Agnevall, executive]

Yes, I think that would be a little bit too easy. I would put it like -- and I think we said that by the end of Q3, we should really have worked this out. But we won't go into the periodization between those 3 quarters.

[Sven Weier, analyst]

But there was a significant part [indiscernible].

[Arjen Berends, executive]

Yes, Q1 was significant, correct.

[Operator]

Next up is Panu Laitinmäki from Danske Bank.

[Panu Laitinmaki, analyst]

I just wanted to ask about the Marine Power margin improvement. Can you split the EUR 90 million year-on-year improvement into like what was the legacy Voyage and then recover what it was earlier?

[Håkan Agnevall, executive]

So -- well, I would say the major driver for the profitability improvement is services. I would say the Voyage that we moved in is clearly still loss-making, but the team is making an improvement. But it's still loss-making. So the major contributor on the Marine Power side is clearly the service business.

[Panu Laitinmaki, analyst]

Yes. Just a quick follow-up. When you mentioned that services drove the improvement, do you mean like just the volume of services group? Or did you actually improve the margin within services?

[Håkan Agnevall, executive]

I would say it's a mix.

[Arjen Berends, executive]

Yes, it's a mix, and it's always difficult to give an exact answer to this. Volume is, of course, clearly, let's say, helping us. But in the mix, it's, of course, depends on what grows strongly. Let's say, if you have, let's say, a rating in margin levels within spare -- let's say, spare parts is clearly the highest and then you have, let's say, the other streams below that.

So let's say, in the mix, things can change even if the volume, let's say, in total goes up. It can, in margin percentage, still go down if the mix of the volumes in the revenue streams change.

[Operator]

Next up is Tomi Railo from DNB.

[Tomi Railo, analyst]

Yes, it's Tomi. Can you hear me?

[Håkan Agnevall, executive]

Yes, we can hear you, Tomi.

[Tomi Railo, analyst]

One of my questions was asked, but I would ask on price increases. Have you continued to do price increases in the beginning of the year and continue to do in the later quarters?

[Håkan Agnevall, executive]

I would say, as we see inflation moderating, I think our price increases are moderating as well.

[Arjen Berends, executive]

Yes, but we are still doing them.

[Håkan Agnevall, executive]

Yes. But I mean it's -- I mean, we have done our price increases to cope with cost inflation, and it's starting to moderate. So I think we are moderating as well. But there is still, as you know, about the cost inflation, yes, some raw material prices have been coming down.

Energy prices are still comparatively high, although it's coming down. But it's still -- and one component still that is on the inflation side is, of course, the whole salary inflation that we have with different magnitude in different parts of the world, so to say.

[Operator]

Next up is Erkki Vesola from Inderes.

[Erkki Vesola, analyst]

Sorry, Hakan, can you hear me?

[Håkan Agnevall, executive]

Yes, we can hear you.

[Erkki Vesola, analyst]

Okay, okay. Very good. You previously talked about the uncertainty in your power plant engine delivery capability in the second half of this year, depending on order timing, et cetera. Can you give us any update on that front? Have the risks been raised? Or are they still the same?

[Håkan Agnevall, executive]

So just to clarify, I mean, it's not about our capabilities. I just want to clarify that. It's more market demand driven. I mean, it is about discrete orders and the timing of those and in which quarter and how that evolves. That's one thing.

I mean, if you look at what has been happening, I would say the last year, if we look into this year, it is, as I said before, gas price volatility has prolonged decision-making and created uncertainty. And we do see that as an impact. Having said that, I mean, we take a more midterm outlook. We still have a positive view of how the thermal power plant market will evolve.

[Arjen Berends, executive]

And this comment relates also more to the production volumes. Let's say, the sales and delivery volumes are something you could say different because there can be a large time difference between producing an engine and delivering it out and recognizing the sales also in projects with percentage of completion. So let's say, the sales that we generate versus, let's say, the issue on the production volumes in the second half of the year are, in a way, 2 different things.

[Håkan Agnevall, executive]

Yes. Sorry, I misunderstood. If we're talking production volumes, Arjen is fully right, clearly.

[Operator]

Next up is Antti Kansanen from SEB.

[Antti Kansanen, analyst]

Yes. Maybe coming back to the services growth, and as you mentioned, I mean, this quarter, it was mainly driven by agreements and then on projects, especially on the Marine side.

So talk a little bit about the projects. What are you actually kind of -- what is the demand, both on Energy and Marine that you're getting right now? Is this sustained? Is there a cyclical element? Is this somehow to do with long lead times on the equipment side? So maybe expand on all of that, please?

[Håkan Agnevall, executive]

So project business and services, there are different disciplines also in that. There are the retrofit projects where you upgrade from heavy fuel to gas, which is that upgrade is now fairly slow because of the gas price. But it will come back. It could also be you upgrade to a new control system. Equipment gets old, and you need to renew them. So there is a whole broad spectrum.

If you look on the energy side, I think that, as I said, there has been a couple of service projects that really accelerated the growth in Q1, and that is more of, you could say, one-time effect. But I would say -- still say that the overall sentiments for service business, both in Energy and Marine, is still very strong.

[Arjen Berends, executive]

Something to add, perhaps on this, call it, retrofit projects. Let's say, we had, as you all remember also from our comments, shortages in electronic components, let's say, earlier years, and that situation has somehow got a little bit better. I would say it's still, let's say, away from a good situation, but it's an improving situation.

And that also gave us the possibility to, let's say, execute more, let's say, retrofit solutions on control systems, for example, that Hakan mentioned. And that we clearly, let's say, see happening. So that's clearly contributing to the right direction and also to the increased activity in field service projects.

[Antti Kansanen, analyst]

And sorry, just a clarification. Was this a comment on your sales that you can deliver more or comment on orders that you're getting some of the pent-up demand now?

[Arjen Berends, executive]

It's both, actually, because we stopped accepting, let's say, certain retrofit orders for control systems a while ago -- or I would say, more than a year ago for the reason that we simply didn't have the components to do this and to execute it.

And then it would not be wise to accept the contract that you cannot deliver upon because then you only end up in trouble. So now we are reactivating that in a controlled way. So both order intake and then, of course, consequently, it comes through sales in a few months later.

[Antti Kansanen, analyst]

All right. Very clear. If I can ask a second question. It's kind of coming back to the storage profitability, and you won't probably give a numerical answer on this. But if we just think about your pricing on new orders, it's really starting to improve last year from second quarter onwards.

So is it a fair assumption that your gross margin and earnings leverage would also start to improve now going into Q2 this year and onwards, just assuming lead times are up to one year or so on that business? Is that a good assumption for the margin development?

[Håkan Agnevall, executive]

I would say -- as I said, we are in a positive trajectory for storage when it comes to its profitability. It's volume -- I mean, there are different driving factors behind. Volume is one. You see the continued growth. It's also that the team is getting more and more seasoned in working with the project business. As we're talking about, we've been investing to build that capability. There is still way to go, but we are getting better and better, which really builds our execution skills.

And I would also say that, at least when we talk to some of our core customers, I think there is also a learning curve among our customers how they regard different suppliers and the supplier's capability to deliver on their core promises, being on time and delivering with the right delivery position, so to say. So there are a number of factors that kind of supports energy storage moving in the right positive direction when it comes to profitability.

[Arjen Berends, executive]

And coming to your reference, Antti, on, let's say, Q2 last year, I think it's good to remember that there was a price reset in the market in storage at that point of time.

[Antti Kansanen, analyst]

Yes, for sure. But I mean, we've been dealing -- or you've been dealing with this kind of a legacy bad projects for -- since then. I'm assuming storage is probably not the worst of those. But I guess, it's included in that as well.

[Arjen Berends, executive]

Yes, that's correct.

[Operator]

Next up is Max Yates from Morgan Stanley.

[Max Yates, analyst]

Just my first question is just about free cash flow for the year. And obviously, it's been kind of quite volatile in the past few years. Some very good, some less good. Would you help us with kind of how you're thinking about free cash flow for this year?

You've done EUR 115 million so far in the first quarter. I mean, could this be a year where we're back up towards those kind of EUR 400 million, EUR 500 million numbers that we've seen? How should we think about that this year evolving?

[Arjen Berends, executive]

We are not guiding on operating cash flow. But I would say, we should clearly do a positive cash flow in this year, that I'm pretty confident about. I will not comment on, let's say, what kind of levels.

Of course, let's say, the situation this year compared to, let's say, previous year, also with all the restructurings and the Russia exits and et cetera, is a quite different one also from a cash flow point of view. So I'm positive about the remaining part of this year.

[Max Yates, analyst]

Okay. And just maybe a very quick follow-up. I mean, I remember you talked about carbon capture and the pilot project that you were doing. I forget whether it was 1 or 2 quarters ago. Could you -- now that you've seen that go in, now that you've seen the kind of value of the order, would you be able to help us with understanding the addressable market opportunity there and how you think about this?

Because I guess, on the one hand, we've seen things like scrubbers. We've seen things like [indiscernible]. Those are really big opportunities. Are we talking about something in a similar magnitude to those? How should we think about it?

[Håkan Agnevall, executive]

I think that's a very good question that we really would like to come back at the Capital Markets Day. So I don't have -- I want to have a much more specific number. But I mean, this -- there is clearly a significant market potential here.

Then we need to recognize that this is an ecosystem that needs to evolve. So as you know, we are developing the technology, and we will start to launch our technology end of this year, beginning of next year. And -- but that's only one piece of the puzzle.

You need to aggregate and store on the vessel. You need to bring it onshore. You need to do further aggregation. And then you need to decide what do I do. Do I pump it back in the well? Do I use it for manufacturing synthetic fuels? And that whole ecosystem will take time to evolve. But if you look on this principle, this has potential to be significant, so to say. But let's come back to that in a more in-depth manner during the Capital Markets Day.

[Operator]

Next up is Panu Laitinmäki from Danske Bank.

[Panu Laitinmaki, analyst]

Just on the storage, I know you don't have like growth targets for that. But can you comment on it from kind of a capacity point of view? How much can you deliver in terms of your own organization? Any comments on that?

[Håkan Agnevall, executive]

So I think when it comes to growing [ battery ] storage or energy storage, we have had, I would say, a careful approach. I -- we could probably have grown even faster, but we wanted to make sure that we build a team, and you build our capability and that we deliver on our commitments. And we're going to continue that strategy. I think it's serving us well. So scaling up is really important, and we are scaling up. But you need to take it step by step.

[Arjen Berends, executive]

In a controlled way.

[Håkan Agnevall, executive]

In a controlled manner, so to say. And we really want to have the business now developing with this positive profitability trajectory, so to say. So we are growing. It's really exciting.

You've seen the growth that we are having. But we want to be careful that we do it in a controlled way, and that we build a team that can execute and have happy customers because at the end of the day, that's the best sales tools we can have.

[Operator]

Next up is John Kim from Deutsche Bank.

[John-B Kim, analyst]

Two questions, if I might. One, congrats on the service revenue growth. Can you give us a sense on how material pricing or repricing of that is in light of the wage inflation we're seeing in cap goods? I'm wondering if you're getting price increases on service agreements in line or ahead of the underlying wage inflation. And then an update on the Trieste structure, if you might.

[Håkan Agnevall, executive]

Yes. If you look on the field service hours, I mean, we have different type of agreements. But the more mid- to long term, they have price indexation for -- because, currently, with -- yes, with the development of salaries, you need to have -- you need -- salaries will go up. So we index the more long-term service agreements.

[Arjen Berends, executive]

Correct, correct. Trieste is the other question.

[Håkan Agnevall, executive]

Sorry, I missed it. Can you...

[Arjen Berends, executive]

Trieste update.

[Håkan Agnevall, executive]

Trieste update, so as you know, we made EUR 132 million provision last year. This is a major decision for Wärtsilä. There is a long and proud history with Grandi Motori. We had a very dynamic process with the Italian different stakeholders, government, regions, unions. I think we reached a very important agreement on the way forward -- the process way forward towards the end of last year.

And you can basically say we are moving along those lines. So we are ramping down the manufacturing. In parallel, we are working with a so-called reindustrialization plan, and that is -- it's part of the Italian framework. This is where we are looking for other interested parties to come in and take over our staff, the manufacturing staff, taking over our facilities. And this process is ongoing.

We have a number of different interested parties, and we hope to be able to reach an agreement with these parties as we go forward, so to say. So that is the status. And you can see -- you can also see on the financials, I think, we took about EUR 90 million in IC impact last year. And I think now in the...

[Arjen Berends, executive]

EUR 6 million in this quarter, yes, quarter 1.

[Håkan Agnevall, executive]

Related to this activities interest. And also I should also underline that we're going to be in Trieste. We're going to be in Italy for the long run. We will still have R&D services, training interest in Trieste. So it's not -- and we're still going to be on the site. But the manufacturing will be ramped down as we centralize our European manufacturing footprint in Vaasa in Finland.

[Operator]

Next up is Tom Skogman from Carnegie.

[Tomas Skogman, analyst]

Can you hear me now?

[Håkan Agnevall, executive]

Yes, Tom.

[Tomas Skogman, analyst]

Yes, yes. So I would like to understand this bigger picture in power plants. When the energy price historically has been high, you typically have good orders. Oil and gas exporting countries have improve their infrastructure by building power plants.

At the same time that some Western financing agencies want to impact emerging markets to invest rather into green energy renewables than kind of something emitting carbon dioxide. So what's really happening on this financing side? And why do we not see order take up in these countries that are now kind of flooding in strong cash flow at the moment?

[Håkan Agnevall, executive]

Well, if you're talking about the oil-producing countries because, I guess, those are the ones that you're referring to being flooded by cash flow, I mean, if I look at me the least, I think that there is a lot of very interesting discussion going on different [ colors ] of ammonia and how solar primarily can be utilized to produce different type of green fuels.

And -- but this is, of course, at an early stage yet. And as you know, we are getting ready with our ammonia engine. I mean, we have the technical concept this year, as we already communicated earlier, and we will start to deliver our first ammonia engines.

So I think that definitely could be an avenue going forward. But it's not right here, right now. I mean, for green ammonia or blue ammonia production to evolve in the Middle East, it will take years to get there, so to say. But there is a strong interest to do so.

Then coming back, of course, there is a very strong sentiment for renewables, and there should be. We are far too late in decarbonizing the energy system. And as I said earlier, U.S. is really moving ahead now. I mean, we see significant growth in renewables, both solar and wind in the U.S. And then we see the balancing -- the need for balancing power is being recognized, and it starts to come.

I would say that the development in Europe is -- when it comes to renewables is still a bit muted, and I think the key challenge is permitting. To get a permit to build an offshore, onshore wind power plant in Europe is not easy. It's a political process. But as I think everybody wants green, but not on my backyard, as we move forward in this political discussion, there will be more renewables. We need to get there, and then the need for balancing power will come.

[Tomas Skogman, analyst]

But I think it's still fair for us just to understand, if you're sitting in an emerging market than you used to get financing from the World Bank and you needed financing from Western banks, is it so that we should not expect emerging markets to -- in a greater amount, book power plant orders running on gas and perhaps even oil anymore?

Just because financing has -- this agency's demand now that investments will focus on renewables. Is that right? We need to wait for this ammonia engine some years before you get a ramp-up in emerging market orders again.

[Håkan Agnevall, executive]

I don't really see that. I think many of the -- like -- take Indonesia, if I take that as an example, it was heavily affected by COVID. They are coming out of COVID now. And now we see the -- there are thermal tenders coming out, as we speak, for engines.

So I would say, many of the countries -- but Asia is a huge region. But many of these countries, they have been heavily affected by COVID. But some of them are starting to come out, and we do see tender activities there. And they -- sorry, they managed to mobilize the financing, to your question.

[Arjen Berends, executive]

But it's, of course, in many cases, demand, there is a possibility to convert later on, in the engines, right?

[Håkan Agnevall, executive]

Yes. And I think this will be a key enabler, and we talked about that on the energy side. It could be ammonia readiness. It could be hydrogen readiness. But I would say that for the hydrogen readiness, as you know, we have communicated, we will have a concept ready for 2025 and then we need to develop products. I think that going forward, that will be key because if you want to build a power plant, you want to make it hydrogen enabled.

Now how soon it's going to run on that hydrogen? That is a big question mark, so to say. And it will probably take a lot of time because as we all know, if you're going to run a hydrogen, it needs to be green hydrogen. We need even more wind and solar to produce that green hydrogen. So this will take time.

[Tomas Skogman, analyst]

You said at the Capital Market Day some years back that gas turbines will not be competitive because flexibility will be much more important. But could you give an update here on how are the gas turbines compared to engines developing when we talk about fuel flexibility and also these ramp-up times and fuel efficiency, et cetera? So what is -- I mean, how is the competitiveness of your product developing compared to the substitutes?

[Håkan Agnevall, executive]

In a good way, I would say that some of the fundamentals of the -- reciprocating engine is there. And the physical properties of reciprocating a gas turbine, they are -- what they are, so to say. Then, of course, gas turbines, they are also getting hydrogen ready, clearly.

But when it comes to the flexibility, I think we still definitely have a strong proposition. We see that in the U.S., where we compete with GE and the likes. And we see that based on some of the customer feedback that we get, so to say.

[Tomas Skogman, analyst]

And the gas fuel cells with hydrogen, can you comment on that on the efficiency?

[Håkan Agnevall, executive]

Well, fuel cells is definitely going to be there for certain applications. Now if they are the way forward for the really big application, that really remains to be seen to scale the technology. Theoretically, the energy efficiency should be higher, but practically, is it really higher? And at the end of the day, this notion about you're going to run it with hydrogen, it would take a lot of time to that hydrogen will be available until it will be affordable.

If we could accelerate it, it would be good for Wärtsilä. I mean, we communicated we just finalized our test in the U.S. with a 25% volumetric hydrogen blend, and that was with our standard engines. And as we talked about, we are coming with our revised engines that where you can take hydrogen all the way up to 100%.

So I think we are there. If you ask me, I think, fuel cells, it will be there. Will it be there for the big application? There is still a big question mark around it.

[Tomas Skogman, analyst]

Okay. Then my final question is on Greensmith. You say that it's a great product. But just open up for analysts and economists like me that what new kind of features are you developing. What will we see the next year in terms of Greensmith applications for customers?

[Håkan Agnevall, executive]

So it's very much about this power system optimization that we talked about. It's how you integrate the control of different generating assets to -- because you can have the storage, you can have thermal, you can have our machines, but you can have gas turbines, you can have wind, solar.

How do you put that mix together and make sure you get the lowest overall operating cost and the highest uptime reliability? This is an area where we are evolving. We are also evolving our trading capabilities, but there are many people that have trading capabilities. But you can have different shades of trading capabilities.

So these are some of the functionalities that we are evolving. And we are tying it to -- also tying into the decarbonization services that we talked about before. Can we work with mines or some end factories on really reducing their energy cost and sharing some of the upside, taking -- also taking risk in the game like we do on the Marine side, for instance, with Carnival -- so to share both the ups and downs?

[Hanna-Maria Heikkinen, executive]

Thank you for all of the good questions, and thank you for the presentation, Hakan and Arjen. Like discussed today, we have seen good progress in services. And we are organizing on June 5 a specific theme call to discuss our further opportunities there. I hope that all of you can join that. Then on July 21, we are publishing our Q2 report. I hope that we all can enjoy some sunny summer days before that. Thank you.

[Arjen Berends, executive]

Thank you.

[Håkan Agnevall, executive]

Thank you.