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Good morning, and welcome to the AAK Q3 2022 Earnings Conference Call. [Operator Instructions] Please note, this event is being recorded.
I would now like to turn the conference over to Johan Westman. Please go ahead.
Thank you so much, and good morning, everyone. Welcome to the Q3 earnings call. Together with me today, I have our CFO, Tomas Bergendahl, and we will give you some highlights and information about the third quarter for AAK. As you see in the agenda, we'll cover some information in Q3, key events, financial updates and then concluding remarks. And after that, as usual, we are happy to take any questions that you might have.
With that, let's move into Page 3. I think it's clear to everyone, we are operating in a global setup, and we have, like many other companies, experienced a time of extreme uncertainty and volatility. Nevertheless, despite this, we, AAK, we continue to navigate well. We have delivered a strong result for the third quarter. Our operating profit is up by 28%, supported by favorable FX or currency effects, but still up 5% at local currency or fixed FX. Our volumes are down slightly, but at the same time, our margin, our operating profit per kilo, is up by 34% or 10% at fixed currency rates. Volumes were impacted by our exit out of Russia and also by our optimization or product portfolio management within Bakery. We are focusing on really delivering a value creation on contract management and to continue to drive our operating profit per kilo, our margin, to improve that towards a higher margin level.
Now let's move into some further comments on the volume development and also then on our business areas. On Page 4, just to give you some further insight to the volume development. We can see here clearly that and when we compare it to last year, our exit out of Russia has a significant impact when you look at it like-for-like or quarter-over-quarter. But then it's a slight reduction in Food Ingredients, an improvement in Chocolate & Confectionery Fats and a slight decrease in Technical Products & Feed, the business area, the third business are. So just a few comments on each one of them.
Within Food Ingredients, we continue to optimize our Bakery portfolio. That's really a classic product management, portfolio management play, where we have been successfully improving the margin over time, but with that also reducing some volume over time. We've also seen a slight reduction within candle waxes, which had a positive boost a bit by COVID, where we saw in some markets more candles being bought during the COVID period. There's still a good underlying trend, but a correction, call it, or more back to normal from COVID.
Within Chocolate & Confectionery Fats, it's a strong momentum, and we have a strong position. I'll come back to that later in the call. Within Technical Products & Feed, it's really a combination of a few things, where we have actually used some volume internally instead of selling it as biofuel, we have used it internally for generating power. So in essence, shifting sales volume into internal use for better cost optimization and also a slightly lower feed production than normal.
So with that, we move on into the business areas or first, some key highlights. We have, during the quarter, invested in new technology. At AAK, we continue to drive technology development, also partly by investing or taking an M&A approach to improving our technology base. One example is our investment into Green-On, a so-called Power-to-X solution with the possibility to produce edible oils and fats out of CO2, renewable energy and water. We've also successfully renewed and expanded our financing or debt facility base, including a green bond for our investments in Aarhus, where we are building bioboilers to significantly reduce our CO2 footprint and also optimize our cost for generating power for our plants.
And with that, now into the business areas, starting with Food Ingredients. We continue to deliver a strong margin expansion with operating profit growing 9% year-on-year at fixed FX. It's 28%, including favorable FX, but really a 9% improvement of the margin. Volumes are down, but that's mainly due to the exit out of Russia and the continued focus on the product portfolio optimization that I mentioned earlier within Bakery. All in all, profit is up by 23% reported or 4% at fixed FX. Apart from the continued improvement of margins within Bakery, we can now also see a positive year-on-year improvement with our results in Special Nutrition, which is really positive to see.
With that, we're moving into the next page, Page 7, and Chocolate & Confectionery Fats. The very strong momentum in Chocolate & Confectionery Fats continued also in the third quarter. This, in spite of us leaving Russia, which is significant to Chocolate & Confectionery Fats market, volumes are up 1% reported. But if we compare it in a like-for-like manner, excluding Russia, our volumes are up 11% year-on-year. So really a strong development within the sector. Our operating profit is up 38% reported or 1% at fixed FX. But in that 1%, we have also Russia impacting negatively by SEK 30 million. So all in all, a few things moving, but really the underlying performance is really strong, and we report a strong result in a like-for-like manner, excluding Russia.
Continuing into Page 8, Technical Products & Feed, another solid quarter for this business area. Our operating profit per kilo is up and our operating profit is up. So all in all, a good development. The volumes are down, but as I mentioned before, that is partly due to internal use of volume instead of selling it and partly a lower feed volume. But really a continued strong momentum in increasing our margin, which is up by 54% when looking at it at operating profit per kilo, and that resulting in an operating profit being up by 36%.
With that, I hand it over to our CFO, Tomas.
Thank you, Johan, and good morning, everyone. Continuing on Slide 9. As you can see, the drop in raw material prices that we saw at the end of Q2 continued into Q3 with far more now below $1,000 per metric ton, down by almost 60% from the peak in early Q2. And as mentioned previously, changes in raw material prices impact working capital and capital employed. And as a note, a 10% change in raw material prices, all else equal, will affect the working capital by about SEK 700 million plus/minus.
Moving to Slide 10. The quarter generated a slight negative operating cash flow of SEK 40 million. Working capital continues to be negatively impacted by higher raw material prices given the 6- to 9-month lag that we've mentioned before. Interest cost has increased quarter-over-quarter, driven by increased working capital, interest rates and increased borrowing in high interest rate countries. This was offset by a positive effect from the hyperinflation recording related to Turkey that we did in the quarter, both Q2 and Q3 as well. CapEx ended up at SEK 263 million and now year-to-date SEK 750 million, which is in line with the guidance that we provided before for the full year of a CapEx spend north -- just north of SEK 1 billion, which we now reiterate. Please also bear in mind the 6 to 9 months lag between changes in raw material prices and its impact on working capital. And given this time lag, we expect a continued negative impact on cash flow for the remainder of 2022.
Moving on to Slide 11. Return on capital employed is down by 0.2% from Q2, ending up at 14.8%. And we expect this slight downward trend to continue into Q4 given the time lag between raw material price increases and its effect on working capital.
Slide 12. As you can see, net debt over EBITDA reduced slightly from just above 2 to 1.96, which is mainly driven by the improvement in profitability.
Slide 13. We're pleased to announce that Carl Ahlgren has been appointed the new Head of Investor Relations and Corporate Communications effective 28th of October. Carl replaces interim consultant Johan Holmqvist, and I would like to take this opportunity to thank Johan for his dedicated service during the past 6 months. Carl has been with Novozymes for the past 9 years, the last 3 years as Investor Relations Officer stationed in New York.
Slide 14. Last, but not least, I would like to remind everyone of our upcoming Capital Markets Day in Stockholm on the 29th of November. The day will start at 12:30 with presentations and end scheduled no later than 5 p.m. And it is a hybrid event for the first time in the AAK history, and registration ends at November 22.
And with that, back to you, Johan.
Thank you, Tomas. Then into Page 15, just some final concluding remarks from myself. We still see, of course, challenges and uncertainties around us. We faced that in quarter 3, and we will continue to navigate. We have navigated well through COVID, through inflation, uncertainty and, of course, an ongoing war in Europe. AAK is well positioned to manage risk and to manage opportunities that lay ahead of us. So although we do expect high inflationary pressure and a demanding macroeconomic climate to stay there to continue, we still stay confident, and we see no reason to adjust our view on the favorable underlying trends that impact our markets. And with that, we do remain prudently optimistic when looking ahead, and we are committed to living our purpose of making better happen.
And with that, we are happy to take questions on the third quarter and the development of AAK, both myself and Tomas.
[Operator Instructions] The first question comes from Alex Jones of Bank of America.
Two, if I may. The first just on chocolate volumes and the 11% underlying growth ex Russia there. That's a pretty robust number given the sort of trends we're seeing in the underlying market and maybe signs of consumers falling to trade down. Could you help us understand why that number is so resilient than what you're doing in AAK to outperform them so strongly? And how you expect to be able to continue that or not if indeed a recession arises in the next couple of quarters?
And then just a quick second question on Bakery. You've articulated for a number of quarters now optimization strategy of reducing volumes, but increasing margins. Could you help us understand the net effect of that on absolute profit in particular and any quantification would be very helpful?
Thank you, Alex. Starting with your question on the CCF volumes. I think it's worth mentioning what you mentioned is, of course, call it, reactions or consequences of the macroeconomic climate, where you could see both from a consumer perspective down trading, but you could also look at it in a business-to-business context where our customer base could potentially do down trading, call it, in order to optimize cost. If we look at that, it is still so that CCF have, in many types of situations in the world, historically been a market where customers see both premiumization behavior, but you also see an indulgence and treating yourself behavior where it becomes also a comfort food that is consumed in bad times and in good times, you could call it. So it has a way of navigating through different types of cycles. And I think we're seeing part of that here as an industry.
With regards to AAK, we are well positioned. We have a strong position in the CCF market. So we do have offerings to our customers, and we have a good service level. That, of course, helps in times like this. But also when looking at it from a down trading perspective, some of our solutions are really opportunities for our customers to reduce their cost versus other alternatives. And that also plays in this. So sometimes you could also see that, yes, it's a climate of inflationary pressure. But that, for some of the solutions we sell, is an opportunity because our customers could choose our solution versus another more costly solution than compared to what they had before. So when you look at our portfolio, it does include the opportunity for us to perform in different categories within the Chocolate & Confectionery Fats portfolio. So I think that summarizes really the answer to your question. Now there's no guarantee for anything going forward. I will not give a forecast, but our position is strong, and we have been able to navigate this climate very well.
Then with regards to Bakery, what it is, I will not comment a specific number. We don't do that, but I will give you a bit more context. We have launched 3 years ago a portfolio-based strategy, where part of it was about optimization. And that optimization piece, which is predominantly for bakery dairy food service, we have really called out in the organization to go for pockets of opportunity for high-value play, meaning within the bakery industry, there's still need for high value-added fat solutions, oils and fat solutions where we try to focus on that. While there is also some areas of the bakery which is more of a high-volume commodity type volumes, and we selectively reduce that and try to focus on the high value-added piece.
And we've also announced earlier a restructuring program, leaving 1 plant or closing 1 plant in Europe, consolidating it into remaining 2 factories that can receive bakery volumes. So that in itself was a decision to close 1 plant and with that reduce part of the volume base and key part of the volume base -- but consolidating into 2 plants instead of 3. So if you combine that all, that is what is now resulting into an improved EBIT for Bakery.
Anything to add there, Tomas?
No, I think that's the focus that we've had for the last few quarters. In Q3, you also see the improvement in Special Nutrition driving. But if you look from Q1 to Q3 of this year, you see the steady and continuous improvement of our focus on portfolio management.
Next question is from the line of Heidi Vesterinen from BNP Paribas Exane.
So you talked about destocking in natural ingredients. I wondered if you might have seen this in any other segments or if you might expect this looking forward into Q4. We've had a certain ingredient companies talk about destocking behavior by customers. And then second question, could you update us on your plans to reroute your Russian CCF or ingredients? Did this already benefit Q3 to any extent?
Thank you, Heidi. Well, specifically to Technical Products & Feed, that's the area where we have already existing opportunities and see further opportunities in helping customers replace fossil-based ingredients with plant-based ingredients. And specifically to candles where we have been for a long time, we saw that very positively within the years of COVID where markets where you typically didn't use that much candle, you started to see volumes picking up. So that was a good positive. We still see a positive underlying trend in terms of replacing fossil-based ingredients in certain sectors with plant-based ingredients or natural ingredients, including candles, a continued underlying optimistic view on that, but certainly, a destocking when you look at the peak from COVID or destocking or not or reduced volume, consumer demand rather.
To your second part of that question, destocking in general, we can't say that we see a destocking trend in general. I think it's worth repeating that there is a bit of uncertainty and volatility around us. So -- and I have repeated that. But so far, we have seen good underlying demand in most of our industries that we serve. You saw volumes being on the lower side compared to earlier quarters, but on the other hand, a successful continued work on driving our EBIT per kilo. And we do run portfolio management and optimization plays within all the industries that we serve. Bakery is one of focus, but we're using the same approach in the other customer segments that we serve. So we have a focus on also improving margins across the board, where increased volume is not always the key focus over time. Of course, we need to lower our plans and continue to have a good momentum also with regards to volumes. But I couldn't say that we see a typical destocking pattern across the board.
All right. Then last piece on Russian volume rerouting. I mean the -- to be a bit specific on this matter, our decision to leave Russia was a decision to stop selling and operating -- selling to Russia and operating in Russia. And that's a plan that we have executed. So that's well executed by our organization. With regards to volume, that obviously leaves the void, call it, in our plants, the volumes we used to sell to Russia, we can now sell elsewhere. But it's not a given that you do that immediately. It is still a work that has to be done in order to serve customers and to address opportunities. And that has worked well.
So yes, there is already in Q3, it's already visible that we see an increased demand in some markets, one being Ukraine, which is back, as I commented also in the CEO comments of the report. Glad to see that our team there is doing well that we've been able to resume operations. But also across Europe, you could see volumes being up. And it's very difficult to give you an exact number how much was that as a rerouting impact. It's rather the consequence, I think, of the total events that leads to volumes being greater with some customers that might have gotten more volumes due to the total impact of this war. But clearly, we have been able to serve this demand. So in essence, that's a positive development, and we're also positive on being able to continue that churn.
Anything to add there, Tomas?
No. And as we also mentioned, the impact from exiting Russia on our EBIT and P&L is reiterated at about SEK 100 million in 2022. So we are on track, if you will, in terms of reallocating volumes. And we actually, in Europe, we see a slight growth. If we exclude Russia, CCF-wise in Europe, we still continue to see growth even in Europe, if you will, right, which is a good sign.
So the SEK 100 million that we guided on is really when you compare it like-for-like. Last year, we earned about SEK 100 million more when including Russia versus what we are doing this year.
And when it comes to the Bakery volume in Russia that we've also exited of course, we had production locally for the local market and our production is now gone as we divested AAK Margaron. So that's not production volume that needs to be moved around, if you will.
Yes.
Next question is from the line of Karri Rinta from Handelsbanken.
I have 3 questions. I'll take them one by one. First, about continuing on this down-trading theme. I guess the opportunity is quite well understood in the Chocolate & Confectionery Fats, but what about in Food Ingredients, your different categories, what kind of opportunities and/or risks you see from down trading -- consumer down trading in the main categories there?
Yes. Thank you. Obviously, the whole Food Ingredients space, it's quite a wide space. Many, many -- and that's -- I mean, that's one of the beauties with AAK. We are an ingredient house for plant-based oils and fats. So we have a wide range of different solutions. Many of them are targeting functionally applications, improving our customers' product. But some of them also offer a replacement. So if you look at the plant-based food trend, of course, that is a binary 1 to 0 replacing animal-based solutions with pure plant-based solutions. But within the whole Food Ingredient space, if you look at the dairy space and bakery space and so forth, there are solutions that we have that offers a cost down versus, for example, animal fats or we can also offer a cost down by replacing an existing ingredient that they have with as good ingredient, but to a lower cost.
So with our range of products, there are clearly opportunities in this down-trading space because it requires our customers to look at their formulations, and we are a strong partner to our customers when it comes to reformulating for various reasons because of our expertise in oils and fats. So there are risks in down trading of course. I mean we also have -- within our wide range of products, we have products which are more advanced than to -- with a higher price and margin and the opposite with some products that are lower priced and lower margins. So of course, there is a risk as well, but there is also an opportunity on the back of our customers looking at potentially, call it, down trading or reformulating to a better optimized cost position on their end and that goes...
Right. That was really helpful. Maybe a clarifying question. Let's say that the customer shifts from animal fat to one of your solutions. So it doesn't necessarily mean that it would have to be a sort of a lower-margin solution of yours. It can be a specialty or semi specialty. So it can be a high-margin product for you, even if it saves money for your customer?
Absolutely. You see similarities, of course, within chocolate and confectionery, as you know, where it's not animal-based, but instead of cocoa butter, you can use a solution from AAK that can be even better, but also a lower cost for our customers while it is a higher-margin product for AAK.
Perfect. Then energy prices, what kind of impact did you see in the third quarter from higher energy prices? And then can you quickly sort of run through your position during the coming winter months, availability and price-wise for your different energy sources?
Absolutely. Tomas?
Yes. Energy crisis has, of course, increased quite a bit in the quarter as everyone else has experienced as well. We have different sources for different plants, given the history of how they're built and so forth. So -- but what we try to do as we do with our raw material input, we try to adjust the utility energy as well. So we have it hedged for the duration of our average contracts. So we tend to look 6 to 9 months ahead. And the importance of that is that we actually know how much the utility bill will be when we price out our products just like we do when we hedged our raw materials back to back. We do spend a lot more time on it, of course, than we did in the past and also spend more time updating not just for raw material prices frequently, but now also for energy and, of course, logistical costs to make sure that we can transfer those cost increases to our customers. But predictability over the next 6 to 9 months is very important for us in order to be able to price our products, and that's how we view utility as we do with raw material and so forth.
And you don't have any concerns about natural gas availability at any of your plants?
There's always a concern, of course. We -- not all plants are dependent on natural gas. We do wood pellets, for example, in coal some and so far, so different solutions. But we also have backup plans, if you will, depending upon how the winter develops here to make sure that we can run our plants continuously. But of course, it's something we focus on, and there's always a risk of these things, of course, especially in these times of conditions that we see right now.
Perfect. And finally, the cash flow comments that you made, is there a reason for saying that your cash flow will improve in the first half instead of saying that it will improve from the first quarter?
It's what we say is there is about 6 to 9 months of time lag as you've noticed that we mentioned the last couple of quarters on the impact from changes in raw material prices into our working capital. This is not exact science. It depends on the type of raw material. It depends on how long the contracts are. That's more or less the average. So what we -- we saw the big drops at the end of Q2 and then adding 6 to 9 months, you end up in the beginning of Q1 or in the beginning of Q2, and it might be some shifts in that logic. But that's why we keep it to the first half of next year and not be more specific than that.
Next question is from the line of Oskar Lindstrom from Danske Bank.
Two sets of questions from me. The first one is on Special Nutrition in China. What's the situation in this market and the outlook in light of market changes, which you've spoken about in previous quarterly reports regarding sort of domestic producers taking market share from international brands? You talked about China pricing, et cetera. So that is my first question.
My second question is around plant-based initiative. I mean are you -- have you launched any new products? How is demand developing in this segment? And what is your estimate of sensitivity to cost inflation and potentially lower disposable income for consumers in the near future here because of inflation? So those 2 questions.
Well, thank you, Oskar. Yes, first, let's move to China. I think the overall trend hasn't changed at all, meaning that you have strong big players domestically in China, producing and selling for the Chinese market as well as you have the international global players that also produce and sell to China, producing in Europe, for example, and shipping to China. China is still the dominating market for infant formula solutions, which is the biggest part of our Special Nutrition segment. So that's a trend that hasn't changed long.
When you look at our profitability on the other hand, as you know, we have had falling birth rates impacting a bit and then we had steep raw material increases and domestic stronger competition, partly due to higher raw materials and a slightly different setup with competition versus AAK. So that did not serve us earlier quarters this year and also last year, that impacted us negatively all in all, while we have still a very strong position in the market.
Now with contract rolling, so in Special Nutrition, as I mentioned before, we've also had more -- a higher portion of the portfolio of contracts being more locked-in type of contracts 1 year or 6 months. Now we've been able to roll contracts and adjust them to the new levels of cost for raw materials and utilities, et cetera. So there is a bit of price cost management within our portfolio of products that we offer and with that, an updated and better position. So there's not a big change in the market. There's not a drag at all, but with raw material prices coming down, with us being able to update prices, do contract management in this market, we have seen a positive effect to the bottom line.
Anything to add there, Tomas?
No, I think that explains the situation. We've also seen some global producers indicating that they see volume increases in Asia. So that's a positive sign as well of their ability to still compete, I would say.
Yes. And there's also been -- let's not forget, even though China is the biggest one single market, there is also the development in Europe and the U.S., and that has also had a slightly positive impact to the total picture.
All right. If we then move into plant-based, a great question, right? So if we look at this -- and it's slightly different between plant-based, call it, dairy alternative versus the meat alternatives. On the plant-based meat side, I think it goes without saying almost that obviously, the penetration early on was driven by a lot of consumers really wanting to shift away from animal-based food into plant-based food, something better for the environment and so forth. And we've already seen early movers into that, and that has been part of the increasing volumes quarter-by-quarter, year-on-year, which is now plateauing a bit, which is very natural, right? The next step is really penetrating the dinner table, lunch table of families, consumers across the globe, where obviously, taste, structure and price, the cost of the product that you buy is very important. And that is the next step for the industry.
So your question is, are we based -- are we coming up with new products and solutions? Are we part of this? Yes, we are. There are a lot of momentum ongoing with customers, with partners in the industry where AAK and our solutions are really in there, help improving products. Now this product still needs to move all the way to the shelf in retail or in restaurants to serve menu. And that's an ongoing journey where we, as an industry, are really focusing on making these products tastier, with better structure and also, of course, to a better cost. And to your comment then or question on inflation, does inflation impact it? Yes, it does because we see inflation going across the board with different food solutions.
And of course, that also impacts plant-based solutions. So I think it is a situation now where the high inflationary pressure, it doesn't help for the consumption of plant-based alternatives, which are typically still more expensive than the other alternatives. And that's something as an industry we are working on, and we -- over time, this will be improved. So I am still bullish and very positive over time that we will shift away from animal-based food into more plant-based or other alternatives that are better for the environment or with a less negative impact, and I think we will see much more of that. But in the current short-term perspective, obviously, inflation has an impact to us, and that will limit the growth for some time in the plant-based space, I think, but long term, very positive.
And I think if you compare plant-based area to plant-based meat, there is a bit more mature as a market and seems to be -- let's see how it develops, but it seems to be a little bit more resilient to inflationary trends than what we see in the meat market. And when it comes to developing new products, as you probably know, we are opening up a new customer innovation center in Amsterdam in the beginning of next year, fully dedicated to plant-based products. And we hope to see good results from that, of course, in interacting with our customers, developing new products and new solutions.
[Operator Instructions] Next question is from Alex Sloane from Barclays.
Two questions from me, please. The first one, just on FX. Obviously, a tailwind benefit the top line of around 12%, but EBIT level, 23%. Was there anything in the quarter with regards to that transactional benefit that was one-off? Or should we kind of consider that to be those tailwinds to be kind of sustainable going forward as long as FX is benefiting the top line?
And then just secondly, just on the cash flow and the working capital, the statement talks about some cash outflow from payables due to one-off adjustments in contractual terms. Is there anything that you can tell us to flesh that out a little bit more, that would be great?
Yes. Alex, thank you. When we talk about FX, there are no one-offs driving that effect. That's purely an exchange rate versus the Swedish krona. So as we've indicated before, I think that will continue as long as you see that rate where it is right now. And it has had an increasing impact over the last couple of quarters after the Swedish krona has deteriorated versus primarily the dollar and the euro.
When we talk about cash flow and working capital, could you please repeat the question?
Yes, just with regards to the movements in the working capital outflow, your statement notes that there was an outflow in the -- on payables due to some one-off changes in contractual terms. So just was hoping you could give a bit more color on what that was about.
Thank you. Yes, changes in payment terms to a few contracts was actually in Q2, if I don't remember or if I remember correctly. So that didn't impact Q3. That was something that happened earlier in the year. There were some changes or effects into payables in the quarter due to timing of raw material purchases over the end of the quarter. But the changes to contractual terms that was earlier in the year. And that's not something that's impacted Q3.
Next question is from the line of Simen Aas from DNB Markets. It doesn't appear to be anyone there on the line. So this concludes our question-and-answer session. And I would like to turn the conference back over to Johan Westman for any closing remarks.
Thank you so much. I think this quarter is really highlighting the strength of AAK. We are operating now for quarters and years with uncertainty, volatility, and we have an agile organization that is really on their toes in terms of managing with continuous plans as well as managing our contract portfolio based on the movements that we see in an inflationary climate. So all in all, very proud of the team that we have in AAK to navigate well.
Having said that, of course, repeating that there is still uncertainty, volatility, nothing is given, but we will continue to push hard to navigate well. And the sum of everything for the third quarter is a strong result, supported by favorable FX. But at the same time, if you really look at it and stripping out the FX is still a strong improvement year-on-year as a whole.
So with that, thank you for taking the time to listening and for your great questions. Looking forward to speaking to you again for the next quarter. Thank you.
The conference has now concluded. Thank you for attending today's presentation. You may now disconnect. Thank you.