Saab AB

STO:SAAB B

Earnings Call Transcript 2022-Q1

[Merton Kaplan, executive]

Good morning from a beautiful day in Stockholm, and welcome to Saab's Q1 2022 Earnings Presentation. I'm Head of Investor Relations. My name is Merton Kaplan, and I'm here in the Saab's studio together with our CEO, Micael Johansson; and CFO, Christian Luiga.

We will start the presentation as usual and follow on with a Q&A session, where we'll try to answer your questions. And then we'll try to wrap that up with our remarking words.

So without losing any time, I would like to hand over to you, Micael.

[Micael Johansson, executive]

Thank you, Merton, and thank you all for joining us this morning. This is a bit of a special quarter, I think, and I don't really want to jump right into the presentation of our numbers and what's been the highlights.

But I do want to reflect a bit on what's happening around us, looking at the changing landscape and the terrible situation we see in the vicinity of us with the war in Europe, Ukraine. And of course, all our thoughts are with the Ukrainian people in their battle for freedom every day, and that is -- and in the light of that sort of a quarterly report feels a bit different this time.

We've seen incredible support from many countries to Ukraine, including Sweden, and that's been also involving, of course, support of weapon systems to Ukraine. And we see many countries now in Europe making statements about increasing defense spending, already have decisions on that, including Sweden with 2% of GDP.

Already, of course, we see lots of interest towards our systems and products from different countries. And this is, of course, well, to replenish systems that they have been supporting Ukraine with, but also increasing capacity in their own countries. And the security situation in Europe is changing, of course, dramatically as we speak.

We also need to sort of recognize that joint efforts within Europe and EU is becoming more accentuated in terms of what kind of capabilities can we work together to strengthen going forward. Many of the things we are seeing right now is here and now. How quickly can we improve our capabilities in different countries.

But of course, the spendings we see, for example -- and I will come back to that in Germany and in other countries in Europe -- is about sort of long-term capabilities as well. So many countries will reassess, I think, their strategies and what capabilities are important and that will lead to acquisitions more long-term.

Today, I think what's happening in Ukraine has also shown that how important -- and it's been recognized that protecting societies and people and having a safe and secure society is really a foundation for sustainable democracies. So what we discussed earlier around these issues and what is sustainable or not, the taxonomy has not really surfaced as an issue, of course, during this quarter, but many have discussed it with us, of course.

In the landscape as such, also part of lots of activities, and I do want to underline that all the attention we have towards us and what we do and our products has not really now been transferred into this quarter's order intake or revenue, that will take some time, because our lead times are a little bit longer and the authorities that do acquire things also have certain lead times to do that. So this has not really effective what we see around us, what's happening now in this quarter.

Supply chain issues are being discussed also a lot, of course. And we took many initiatives during the pandemic to make sure that we can manage sort of our supply chain. We do not have a situation that prevents us growing. We have secured lots of what we do for this year and a bit of next year. And then, of course, we're continuing our efforts to make sure that we can manage the lead times and the prices that we see for components and raw material going forward. So that's a lot of attention to that as well.

And then, of course, you cannot avoid sort of the discussions around sort of alliances such as NATO. And when it comes to Finland and Sweden, it's political decisions, of course, what's best for the countries in the light of security policies, and I don't have any view on that. But we as a certain industry, we do, of course, assess what it would mean if that would happen to us as an industry. And my sort of short summary is that we are already in the market of NATO countries with many parts of our portfolio.

However, I mean, being within the alliance would probably open up a bit more sensitive stuff that we do in discussions with other industries and other defense forces, so the penetration would become a bit sort of more positive maybe. But also the competition in our own home market, Sweden would probably increase. But in summary, I can't see any really negative effects if this now would happen, but that is still a political decision. So a lot of things are changing around us for sure.

If I then go into the highlights of the first quarter. As I've said, we've seen strong interest in the portfolio. The order intake has increased compared to the same quarter last year with 38%, mainly when it comes to medium-sized and smaller orders and not really any sort of mega deals.

We have a solid state of the year, of course -- solid start of the year with a slight increase when it comes to sales. And I'm specifically pleased with the fact that we're continuing our trend of improving our profitability. So an increased gross margin, which is about efficiency in our projects and a favorable product mix have now led to an increase of our EBIT with 10%, which is absolutely the way we want to go.

So we have 2 really good highlights in terms of order intake and EBIT. And also cash flow is according to plan and the payment plans we have in our projects right now. So this is according to what we have planned for.

A couple of very important things that happened during this quarter is, of course, the delivery of another 2 serially produced Gripen Es to Brazil, and they have now started to fly in that country. That is a big thing and a big achievement. And of course, building now up capability in Brazil with the Gripen E is important to us to continue to discuss sort of more aircrafts in that country for coming batches.

And then we have launched actually a new integrated short-range air defense system, which is a mobile system, connecting our sensor technology with the RBS 70 next generation system on a vehicle, which is an extremely capable short-range air defense system, a new product launch.

Key orders in Q1, as I said, mainly medium-sized orders. We did get a Mid-Life Upgrade of the third Gotland-class submarine from Sweden, which is really appreciated. Now it will be a complete upgrade as the other 2, the Gotland and the Uppland version of the Gotland-class that we already have delivered now to the Swedish Navy.

Defense forces have a trend of training a lot more now around the world. So our training and simulation business is growing much more than we've seen before. We've seen contracts in the U.S. when it comes to training and simulation and also in Denmark and Finland. We have seen RBS 70 in Argentina. And of course, more support weapon business, specifically to Indian Armed Forces, and some civil security type of business as well, both in Australia and our remote traffics -- Remote Tower Systems in U.S. and Romania.

But all in all, these are sort of -- it's a big interest and we are growing on order intake, but what we've seen around us now and all the requests we see as a consequence of increased defense spending and the situation in Ukraine, has not really affected this quarter. This is sort of a good growth based on earlier market initiatives.

A quick view on the business areas and a few comments around that. In Aeronautics, we have -- we've received a few sort of medium-sized orders relating to ongoing Gripen projects. We saw unfortunately, Canada also selecting to go and start negotiations with our competitor, Lockheed Martin rather than selecting Gripen.

We did meet all the requirements, and that is not a security arrangements within the 2 eye type of security arrangement that is, of course, performance-related requirements and affordability and industrial participation and actually establishing industry in Canada. But Canada chose to go ahead in any way with Lockheed Martin.

We have some effects still from not having really started our production in West Lafayette, Indiana, the T-7 training aircrafts. That will happen imminently now during the year, and the factory is ready to take on that production. And the mix in aeronautics still being a bit affected by not having T-7 in production and still a weak situation on the commercial side is getting sort of more or less a flat revenue situation during this quarter compared to the quarter last year.

In the Dynamics, of course, the demand is really high, and they are growing substantially. Order intake is up a lot during the quarter, mainly driven by, as I mentioned, training and simulation and many countries have decided to sort of intensify training into defense sources, but also contracts on the missile side and an improved situation in the underwater systems business.

We do, of course, have contracts coming in also on the Ground Combat side. But compared to the first quarter last year, not such a substantial increase. However, the interest is really high on the Ground Combat side, as we speak. And this has resulted then in -- when it comes to the operations that the mix and the production pace in Dynamics is really high now. So they have a very good EBIT margin during this quarter.

Surveillance is also growing order intake-wise, driven by -- mainly actually this quarter by the civil segment, a big order in Australia and also traffic management solutions, as I mentioned, for airports around the world. We have a slightly lower revenue level this quarter compared to the first quarter last year, but that was also a peak quarter because of the contract on the GlobalEye that led to a high revenue level last year.

We are improving the EBIT because we are improving the project execution and the margins in the project and the mix have been favorable as well, so they are really going in the right direction.

So it's Kockums, finally, we got a larger contract on the submarine upgrade, which is really good to us to have that in-house now. And we have already started to cut that submarine in half again and putting in a new section, which is part of the upgrade. And the activity level in the business is really high now. So we see a continuous increase of EBIT in Saab Kockums and also a very good revenue increase compared to the quarter last year.

When it comes to sustainability, it is a very important area to us, of course. And as I said, it's been very much sort of noted now in the -- around the world, how important peace and security and stability is for a sustainable society. So the discussions around sort of whether we are a sustainable business or not has sort of not been high on the agenda. And I think many people realize that we are an important part of security policies in many countries.

We have -- what we've done this quarter is, of course, we have continued to work on our "Race to Zero" commitment. We have implemented a way of governing our sustainability initiatives internally with a sustainable Board. We have also submitted our Science-Based Targets initiatives and awaiting response on that later this year. And we have really made sure that we measure our initiatives in the way that it's connected to our performance share plan that the Annual General Meeting took a decision upon just a couple of weeks ago. So we have the reduction of CO2 now in our performance targets for many of our managers.

And then again, we are continuing now to implement a Responsible Sales Policy with tollgates to review things in an even more diligent way even if we've had it before when we do business around the world. And this is very well received in the organization and also externally.

This is a very busy slide, and I promise you I won't go through this in detail. It's just an interesting sort of summary of what we've seen happening around us when it comes to defense spending. So of course, if you look at this slide, and you see many countries going towards 2% and even beyond. Of course, that creates a foundation for growth for us as a company going forward.

Now all of these sort of new initiatives, as I said, have not really come into play yet when it comes to contracts and revenue. There is sort of the nature of this business to be a little bit more long-term. But I hope we will see towards this year -- end of this year that we will see more contracts as a consequence of all this and also then over the sort of the next year and the years to come and increased revenue.

But we have decided to continue to guide on average 5% growth over time until we'll see the consequences on our different parts of our portfolios and how quickly the countries will actually move into contracting in different areas.

I think one can highlight that Europe is more than doubling projected defense expenditure over time up until '26, which is an incredible number of -- amount of money that will be spent and a major portion of that will be in acquisitions or new capabilities, of course.

Germany is a good example, spending EUR 100 billion going forward and moving to 2%. That is a huge economy. So it's not only about short-term things, it's also about long-term sort of directions and larger platforms and systems.

Sweden, as also our prime minister have stated that we want to reach 2% as quickly as possible. And Poland is going for 3%, and the Baltic states are increasing as well. So there are many countries now moving in the direction of creating higher capabilities to protect their societies and people. One can look into the details, but this is, of course, a base for future growth for us.

Finally, then when it comes to our priorities, our strategy remains intact, I must underline that. I think we have a very good mix of core areas both when it comes to product and subsystems and integrated platforms. Our core areas are, as you know, fighter systems, underwater systems, command and control systems, sensors and advanced weapon systems, and that is a very good mix.

To continue to establish ourselves multi-domestically is still absolutely in play, also when it comes to increasing capacity and what we actually manufacture where. I think this step to make Germany focus country was a very good step looking at how much they will spend going forward. So we are already growing with good business foundation in Germany, and we will continue to put a lot of effort in that going forward.

We will not forget about the investments in R&D and how important new technologies will be for us going forward, connected to core areas, but also potentially new business avenues.

And looking at what we focus upon again then, these, of course, autonomous systems that will come into play in the air domain and in the naval domain. We will have much more of an integrated, more complex and diverse sensors system setup. Cybersecurity will be an area where we will focus on cyber resilience, of course, but also cyber defense.

And then, of course, information sharing and how you actually get the right information at the right time at the right place will be now going into doing cloud offerings in the defense environment, and they must be secured, of course, and it will be an extremely efficient connectivity that has to be established. So those are the main areas we will invest in.

And then, of course, the more short-term, but also long-term to support our customers' defense capability growth, meaning that we have to boost our capacity. As an example, we have doubled our output from Karlskoga when it comes to support weapons, already before what we've seen in Europe happening now so -- and that will continue.

We have invested already now and taking decisions in increasing our production lines, but that can also happen outside Sweden, of course. And U.S. is one good example where we already have now the T-7 production, but also sensor systems production. But what I see going forward is also support weapon production in the U.S.

Very important part is, of course, to continue to work with the supply chain, and we did that a lot during the pandemic. And as I said, we have a good situation not affecting our growth going forward. But this has to be done diligently also going forward. making sure that we manage potential increased lead times from our suppliers and potential price increases as well in our new contracts with our customers.

And then, of course, fight for competence. We have a fantastic employee base today, a very capable employee base. But of course, we need to make sure that we retain our employees and our competencies and develop them continuously. And we've implemented the learning landscape situation where everyone can actually continuously get access to training online as we speak. But also to fight for new talent in this situation is a very high focus to us, because we are recruiting as we speak.

With that, I will transfer to our CFO, Christian Luiga, to talk a little bit more in detail about our numbers. Thank you.

[Christian Luiga, executive]

Thank you, Micael, and Good morning to everyone, and looking forward to give you a brief presentation on the financials. The key highlight of this quarter is that we are moving ahead in a solid way, and we have a solid quarter. And most important number is that we improved our gross margin and thereby also our EBIT growth is in line with our outlook. But I will come back to that, of course.

But first, a couple of words on the order backlog. 2 things I want to highlight on this page is the order backlog to sales conversion. And for this year, it is SEK 27.1 billion now left in our backlog for this year compared to -- and last year, it was SEK 25 billion. That it means it's up with 8.5%. And as you know, we have a sales growth target of 5% for this year. So this gives us a good starting point for the rest of the year.

But also next year's backlog to sales is up 13%, the SEK 27.2 billion on this page, which also then gives a good fundamental basis for growth. And as Micael said, the orders we have right now has not been impacted yet, and we don't know exactly when that will happen, but over time from the increased demand.

Looking into the quarter 1 income statement. Sales growth is 1.4%. Organic growth is 0. This is in line with what we expected. We expected a weaker first half, not only first quarter, but first half, and a stronger second half of the year in sales. And that is both based on the very strong comparison numbers for last year. Quarter 1 last year was 13% growth. So it's tough comparison numbers and -- but also based on the delivery pattern that we have planned for this year.

Then the gross margin, as I said increased and it increased with 0.8 percentage points, which is a fundamental and important part. We will grow our profitability, we said, through scale effects, and we didn't have any scale effects in this quarter as we had 0 organic growth, but also then from improvement in efficiency and other measures to our profitability.

Gross margin is impacted by both a favorable product mix, but also by the improved project execution. The EPS is weaker than last year, and that comes from a financial impact on our financial net from our short-term investments. We have SEK 11.3 billion in liquidity. A big portion of that is in short-term investment in those.

And it's the market impact on those, no cash flow effect. And if we stay with the bonds, that loss will come back as a profit over time, but it is how you do accounting wise when you have to measure your -- and report your short-term investment at market value at all time. Without that loss, we would have had an improvement in EPS in the quarter from the stronger EBIT margin and EBIT improvement of 10%.

Sales per business area. Aeronautics, they started slower this year, and it's the timing effects on their bigger project execution. So nothing we particularly worry about. The civil side is actually quite flat, but on a very low level and very small in these total numbers.

Dynamics, moving on, having a good last year, but also very good this year. As Micael said, production capacity is increasing in that area, and we have a good order intake since before that we are delivering on.

Surveillance had really a high comparison numbers, as also Micael said, and it was 38% growth in quarter 1 last year, and that is actually the only main reason why we see a negative development in Surveillance in this quarter.

And Kockums is moving ahead, adding to the underwater side, more surface agreements, and that is actually one of the main drivers for the higher sales.

This is one of my favorite slides. And as long as it goes upwards on both these 2 lines, of course, we should all be happy. And it illustrates our growth journey, and we are continuing to grow on sales, even though small in this quarter. And the EBITDA margin is also improving, driven by a better gross margin.

As I said in the last quarter, we had a dip in quarter 4 or in 2020 from the COVID impact. And in 2021 year-end, we were back on the same level we were in 2019, and now we continue our growth upwards from that level.

The EBITDA margins per business area and the EBIT. Here it illustrates this picture very well, where does the improved EBIT in quarter 1 come from. It's Dynamics and Surveillance that actually contribute primarily to the growth of EBIT in this quarter, even though we shouldn't forget about Kockums also supporting and helping out in this journey.

And the margin improvement in Dynamics is very much a product and -- project mix and product mix. And we are on a very high level in Dynamics right now with also the impact they will have on costs moving ahead, building out their facilities, et cetera for high capacity.

Surveillance are moving towards an upwards in margin in a way that we want to see. And we said that before that last year was very low and Surveillance should improve their margin over time to a higher level. And Kockums is around the 6% to 7% that we said over time that they should be and moving also ahead in the right direction.

Combitech is in a market with very high demand. We do get a very new good orders in both some of the solutions we have on data systems, but also within cybersecurity and the finance industry, et cetera.

But we have, as you can see, a little bit lower margin in this quarter compared to last year, and it is primarily driven by the slightly higher cost that comes from the industry having such a high personnel turnover right now. And this is something we need to work with, secure that we have the right competence and low turnover pay, so we can deliver on the demand that we see and have towards Combitech right now.

Cash flow from operations then. A couple of things that I want to highlight is that, that we were in line with last year. Last year, we actually stood here and said we have some quite big milestone payments primarily related to GlobalEye. This year, we don't have that, but we have a lot of the smaller payments. And that is very visible when you look into the report, and you see that Dynamics has a very high improvement of cash flow. And Dynamics typically have more of the small and medium-sized payments compared to Kockums and, for example, Aeronautics that have more bigger milestone payments, also in Surveillance connected to GlobalEye.

So it's a shift of type of payments, but very similar. And actually, the inventory change in this quarter compared to last quarter 1 in 2021 is on the same level. That means we actually increased the inventory this quarter as much as we did last year.

However, important to notice is that our inventory overall is up 12% year-on-year, and that is back to that we already started in the COVID period to work on securing supply for the increased order demand that we have. So we have a 12% increase in inventory year-on-year.

We have a bit lower investments in capitalized R&D, but that's more a timing effect. We do not believe and we don't foresee that we will lower our R&D over time. It is actually one of the key cornerstones in building a successful and sustainable profitability over time.

Net debt is down. Technically, this comes from actually a change in the pension obligation calculation. So nothing that impacts either cash flow or impacts anything else than that we have changed the assumption on some of these according to the regulation that is out there, and that impacts around SEK 1 billion on the net debt. Otherwise, we would have been pretty much on the same level, a little bit better than the end of last year.

We do have a debt maturity of SEK 1.7 billion for this year. Not feeling that -- worried about that, even though the market is a little bit tougher than it was a year ago. However, we also have a liquid investments in SEK 11.3 billion and on top of that revolving credit facilities. So we stand very stable with our balance sheet going forward.

Finally, we reiterate our outlook for 2022, the organic sales growth of 5%, being then 0 in the first quarter, meaning that the second half will be stronger. EBIT, we started this quarter with 10% EBIT growth. We have guided on 8% to 12% for the full year, and cash flow should be then positive for 2022, however, lower than the SEK 3.3 billion that we had in 2021.

And with that, I move over to the Q&A then, Merton, and give this to you.

[Merton Kaplan, executive]

Thank you, Christian. So now we have some good time to open the floor for your questions. And today, we will focus on the questions that you ask on the conference line. So if you do have questions, please dial into the numbers that we provided on our website and invitation to the webcast.

So the moderator, but before I do that, I also want to inform you to please ask maximum 2 questions at a time so everybody gets a chance to ask the questions. But you can always come back and follow up with more questions. We're happy to take them as well.

So the moderator, I would like to give the word to you.

[Operator]

[Operator Instructions] Currently, we have no questions on the phone lines at this time. [Operator Instructions] No, it seems there are currently no questions coming from the phone lines at this time.

[Merton Kaplan, executive]

Yes. I think everything was clear then.

[Christian Luiga, executive]

And no, nothing on the e-mail, then we...

[Merton Kaplan, executive]

No. We don't have the e-mail or the web channel today. Okay. I think we have no questions at the moment. I think everything was clear. But if you do have questions, you can always e-mail us and we'll try to get back to you online instead. So with that, we'll thank you. Thank you.

[Christian Luiga, executive]

Thank you very much.

[Micael Johansson, executive]

Thank you for joining us this morning, and I hope that this was crystal clear, and that's why you didn't have any questions. But please come back to us, of course, and ask questions if you have any. And we will, of course, push ahead, as we've described with lots of interest in the marketplace. So we have a lot to do going forward. Thank you so much.

[Christian Luiga, executive]

Thank you.