Volvo AB

STO:VOLV B

Earnings Call Transcript 2019-Q1

[Claes Eliasson]

Good morning, and welcome to this press and analyst meeting covering the first quarter 2019. We will be listening to presentations from the CEO and President of Volvo Group, Martin Lundstedt; followed by Jan Ytterberg, our CFO. After that, there will be a Q&A session, where we'll be taking questions both from the room and from the telephone conference. So please use a mic. Martin, take it away.

[Martin Lundstedt]

Thank you. Thank you, Claes. So ladies and gentlemen, also from my side, most welcome to this presentation over the first quarter 2019. Just to start off, let's see, if this is working, yes, it's working. With a summary of the first quarter, a very strong quarter as you have seen for the Volvo Group, net sales up with 20% up to a record level of SEK 107 billion and an adjusted operating income of SEK 12.7 billion corresponding to an operating margin of 11.8%. Also operating cash flow in -- and Jan will come back to that obviously, in a normally weak first quarter, we saw a rather strong on almost SEK 3 billion. When it comes to the volume development, it has also been positive as regards deliveries. The truck deliveries increased with 12% primarily related to North and South America, where machine deliveries increased with 5%, and the absolute majority of that was related to SDLG. When it comes to the service sales development, we have seen a continuous growth of the service sales for the group, up with 4%, excluding currency effects. And that is primarily driven by continued strong, of course, momentum in the market when it comes to activity levels among our customers, but also to an increased population in the market. So that will continue to be strong also moving forward here. Just a couple of words on Bauma. Bauma Machine that is the biggest exhibition, as you know, in the world as regards construction and mining activities. That is taking place every third year. And I was very proud to see that we were showcasing a very strong presence as a group. Because in this -- these industrial verticals such as construction, waste collection, mining, we have a very strong combined offering, and we are more and more working together going to the customers as a whole group with complete solutions. It was an exhibition of innovation. We launched a number of very unique solutions. And in the middle, you see proud Melker Jernberg standing just after the reveal of the new full electric range of compact machines both for excavators and wheel loaders. Something that was really positively welcomed, obviously, because those are segments where electrification will come the quickest. I will come back to some of the other launches that were made during this very successful exhibition.On the truck side. To start with, the market situation, something that I know that you are listening very carefully to what we are saying about that. We are actually leaving our forecast for 2019 unchanged. Maybe some comments. As you know, deliveries into -- or the total market in North America was actually up 22% in quarter 1. So if anything, we see that we are leaving our forecast unchanged. But if anything, we feel somewhat an upward pressure when it comes to the total market in North America. But also for the other bigger market areas, we are leaving the forecast unchanged as we reported already in quarter 4 in January. When it comes to the orders and delivery situation on the truck side. To start with, I mean, the total order decline was almost 40%, and that sounds obviously rather dramatic. But when you look into the -- and digesting the figures, the first thing that you see is that you have more or less 1:1 book-to-bill ratio in all market areas except North America. And North America is when it looks to the figures rather dramatic because we have a decline of orders of 77%. But as you are aware of, we have that, and you can see that on the slide as well, I mean the book-to-bill has been extremely positive for a long period of time. And as we have been communicated before, we all continuously now looking over our order book quality in North America to be really sure that we are not sitting with the wrong type of order book and order quality. The message here is that customers are taking their deliveries. It is working according to the provisions, and we have an order board that is full up to end of 2019, and very restrictive to open up 2020. We are doing that for certain orders in order to capture them. When it comes to the delivery situation in North America, plus 42% is obviously strong. But one shall remember that the quarter started rather weak primarily for Volvo trucks in North America, with continuous disturbances in the value chain that has been continuously or continuously improved during the quarter. When it comes to Europe. Also there, we saw a decline of 15%, little bit of variation between Volvo and Renault. Volvo minus 10% if I remember it correctly and Renault on the heavy side around 20%. For Renault, a little bit of periodization with some of their traditional bigger accounts. But if you see the trend line of our book-to-bill ratio, we are trending towards the revision or the forecast that we have been stating of around 300,000 total market. So -- and also then is South America, continuous strong situation. We already had a strong order intake last year, and as you see, deliveries are up, whereas in Asia, it's primarily related to the weakening situation in Middle East.Truck shares. I indicated a little bit in North America. Obviously, we have been very keen on keeping the right quality of the business when it comes to our introductions of the new trucks. That is one of the reasons. The second reason is primarily for Volvo is, as I said, we had difficult to set the start of this quarter to get trucks out basically to the amount that we needed. We have seen improvement at the end of the quarter. Our market share is north of 10% for Volvo. And Jan will come back to that when he comes to the receivables also that we have now a strong pipeline of the deliveries that we shall do. Because it is important to say that for Volvo trucks, it has been a favorable market mix. We have a stronger on-road segment in the beginning of the year than the rest of the segments. The interesting part for Mack though is that Mack has actually increased their market share in all segments. But as you know, that they are weaker in on-road and stronger in straight trucks and in waste collection, the market mix has been not -- or the segment mix, I should say, have not been favorable for them but still a strong momentum. And we are very confident that the new models are on the right quality when it comes to price realization and also on order board.In Europe, we are losing at the start of the year for Volvo primarily related to 2 reasons. Reason #1 is surprisingly strong start of the German market. I don't know if that has something to do with one-off effects but a surprisingly strong start to the German market. Since we have a weaker position there, that is actually giving some effects on our market share. The second reason is that we have made priority on quality in the business, i.e., prices and commercial conditions. And also somewhat customer mix in a favorable market where we are running more or less on maximum capacity. Renault, stable. And I think that is also good achievement given or a little bit that improvement given the very, very strong German market where Renault is very weak, I have to say, with 1.5% market share. In other market areas, as you can see improvements. I'm satisfied to see that we are coming back in Japan. There, we have been made -- as you know, we have been doing priority on the quality of the business for a long period of time. The turnaround has been far more important than the market share. But now when we have things in good order, we see also that we are continuously gaining, and the new products are well received. Brazil, working well also after the price realization activities we did last year, coming back on a strong note when it comes to the total market share. And South Africa is actually, I mean even if it's not the biggest market areas, but I think it's fantastic to see that we are north of 35% combined market share and almost 30% in Australia. I would like also to take some minutes on one of the launches, very important launches that we have done during the first quarter and that is the package that we call I-Save for our long-haulage, FH execution for Volvo trucks. It's a combination on many different innovations and improvements, giving up to 7% of fuel improvement, which is, of course, huge and taking us back to a leading position. The anchoring feature in this launch is the new DTC 13-liter engine 460 -- 500 horsepower that we have already launched in North America but is now coming to Europe as well. Combined with improvements in the transmission I-Shift in the gear rating, rear axle gear ratings, but also then additional features like I-See when you have digital maps, doing even better anticipation of how the topography and other circumstances are looking, and also I-Cruise, how do you actually operate over the long-haulage distances and idle shutoff and a number of other things. So very strong and it's now available on European markets.On Construction Equipment side. Also here, we foresee a continuous stable outlook. We have made 2 changes. One a little bit bigger change for China, where we were guiding from minus 10% to 0% last time, but now we are guiding it up to 0% to plus 10%. We had a rather strong -- we had the strong start to the markets plus 20% when it comes to the market size. And it is primarily then excavators and both on the big and compact side that is pulling that figure up here. On the other -- and also South America, we are revising somewhat up also from a flattish market to 0% to plus 10%. But of course in comparison, rather low volumes. And for the rest of the market, it has started as we have anticipated also, plus 4% in North America, plus 2%, 3% in Europe and somewhat below the 0% line for Asia excluding China.Also here, a little bit the same situation as we have talked about when it comes to trucks. In North America, we have had a long period actually of rather good order intake, meaning that the order board has been good and meaning also that our organization, together with dealers and customers, have been going through that in a good way. We are still, as I showed on the last slide, guiding for somewhat positive market outlook, 0% to plus 10%. But it's also in this case, very important to keep very tight look on the balance between deliveries, orders and the order book quality. Europe, no drama. Very high comparison figures when it comes to order intake, quarter 1 to quarter 1. So still we are confident that it will be a flattish market on good levels. And Asia, obviously, when it comes to the whole situation and deliveries, I mean, it's China that is -- the Chinese store there, and somewhat weaker market in the rest of Asia but no drama at all.Also, Construction Equipment had a very strong innovation quarter. And of course, took the opportunity in April then to launch a number of the most important innovations. The 20-ton excavator is more general-purpose machine in a very high volume segments, where we have not had the most competitive offering, if I put it like that. We have had a good quality and technical execution. But when it comes to features in relation to the cost level in this general purpose segment, we are doing big improvements with this launch now. And it has already been then launched in Asia and China and now coming to Europe as well. I was already into the reveal also of the compact excavators and wheel loaders, big success, and we were taking orders on the fair. And I think there are a lot of customers that would like to do a statement now when it comes to urban areas, where these type of machines will fit perfectly. And honestly speaking, I mean we have not been relevant in the compact segment as you know. So this is also a good opportunity for Volvo to really take a step forward in the compact part of the construction equipment space. And then also we launched a 35-ton hybrid hydraulic excavator. Never forget that now, [indiscernible]. That was launched. And what is that? That is actually that you're using also the movements of the different parts in order to recharge batteries, et cetera. So that is also a very interesting launch for general-purpose applications.Buses. Also a quarter in absolutely the right -- steps in the right direction in many different cases. Jan will come back also to the result. So steps in the right direction, definitely a strong order intake, mainly driven then as you see by Asia, Oceania. We had a very big order to Australia, and Perth, and also Mexico where we have very, very strong foothold and successful business. Deliveries also increased primarily related to our big order to TransMilenio in Bogotá but also in other areas. And we took them a number of very important deals during the first quarter. Perth, 450 firm orders but also options for another 450. And then in addition to that, 300 to Mexico, 70 to Calgary to mention a few here. So a good momentum. Penta, also a quarter that was really strong. The decline of order intake was, of course, anticipated given the prebuy of the Stage V in 2018, and deliveries also declined with the same anticipation given the fact that customers have been buffering port [ obviously ] since we have these transition rules in place. We also launched here a number of activities that will take Penta to the next level, both when it comes to marine and industrial segments primarily then for electrification. The ElectriCity project is important to really showing big scale what we can do for an urban activity, where we, before, have been driving the ElectriCity for buses, we have been driving the electric site for Construction Equipment and now also when it comes to marine transportation. And then, also that we are now signing up for this cooperation with the Rosenbauer on the industrial segment. And as many of you might know, Rosenbauer is one of the most well-known and premium fire engine manufacturers for special applications primarily for airports and other special applications. And here, we are using and building on the group's model platform as we are doing on Construction Equipment as well. So very good. And it's interesting to see how the success actually for the industrial segment continues from being known more or less as -- primarily as a marine engine supplier into marine system supplier into actually an industrial system all speed and power gen supplier. I think that [ OEM ] is fantastic, and more is to come here.Financial services. Finally, when it comes to penetration, increased in Asia. Generally speaking, as you can see, a little bit lower penetration in total primarily then driven by EMEA and North America. One of the factors is increased competition. We see that there are more actors actually competing for the deals. And we have -- I mean our view is to be balanced when it comes to aggressive in penetration but also balanced with conservative views, we actually can maintain our promises over different cycles and not be opportunistic that we know that some other financial institutions might be. No one mentioned. And market mix is also one of the explanatory factors actually, and that is primarily driven by Europe, where France had a strong position in total market, and we have not the same type of market share. But generally speaking, stable situation, and we have also been rolling out different type of new products, where one of them is for Europe then coach assistance assurance for our bus customers.So by that actually, I conclude the market presentation and leave the word to our CFO, Jan Ytterberg, for the financial figures. So please, Jan.

[Jan Ytterberg]

Thank you. Okay. A solid quarter with improved financial performance across truck divisions and business areas. Starting with net sales for the group. In the first quarter increased by 20% compared to last year to SEK 107.2 billion. Currency effect impacted EBIT a little over than SEK 7 billion. That was related to the weak Swedish kroner in general and strengthening dollar compared to last year. So currency-adjusted sales, up 12% for the group. Vehicle machine and engine sales increased by 15% in local currencies reflecting a general high demand as well as a sharp increase in -- of truck deliveries in North America. And if you remember, Martin mentioned it last year, we had a situation of changed overall programs in North America for both Volvo and Mack which impacted negatively. And subsequently then, the net sales increase was most pronounced here in the quarter related to North America, where also the supply chain still is strained but have gradually improved. The increased net sales in Europe of 3%. Currency adjustment was mainly related to higher vehicle deliveries in Western European countries with an increase of deliveries into United Kingdom to mitigate a potential hard Brexit effect. Net sales in South America increased by close to 50% in local currencies reflecting the recovery of the Brazilian economy, whereas net sales in Asia was if we take away currency, flat, where increase of deliveries of machines and trucks into China were offset by lower deliveries to Middle East. Service sales improved by 4%. Currency adjusted reflecting the high transport demand, increasing rolling fleet and also the high utilization of the vehicles.Moving over to the operating income for the group. In the first quarter improved by SEK 4.4 billion up to SEK 12.7 billion, and I'm talking then about the adjusted operating income, and adjusted operating margin was 11.8%. That is an improvement of 2.5 percentage units compared to first quarter last year. And improvements were noted across all segments and some of our truck division and business areas where at the record earning levels for the first quarter. As I mentioned last year, the first quarters were impacted by the changeover programs in North America and in particular from the operating income effect that was negative due to the lower truck deliveries last year and also the higher per unit costs. Currency impacted operating income positively by SEK 1.2 billion in the first quarter. As I mentioned on sales, Swedish general weak Swedish kroner and appreciation of the dollar, but we also got some positive effects from the euro and from the British pound on operating income. We don't give forecast for the full year on FX in total, but we do it on the transaction effect, and the transaction effect is now expected to, for the full year, be around SEK 1.5 billion.Main contributors to the improved adjusted operating income in the first quarter were then the improved volume, 12% of truck deliveries, 18% of bus deliveries and 5% on increased machine deliveries. And on top of that, service volume going up at around 4% or revenues growing up at 4% currency adjusted. And furthermore, we had a good price realization in general across the group and also a positive mix impacted. And on top of that, the capacity utilization and efficiency in production impacted positively with then continuous improvements that were noted sequentially, and volumes stabilized on a high level in the quarter. So all in all, 5.3%, improved gross income, and part of that is also of course related to the positive FX effect.Moving over to the indirect expenses. R&D expenses, the paid-up expenses were higher. And it's of course a challenge for us to balance the resources and ambitions, with emission demands from legislators and also our ambitions to deliver out important product improvements. The net capitalization of R&D costs was on a high level in this first quarter as more expenses were then related to project in capitalization phase, and we should remember that last year, the amortizations were actually higher than the capitalizations in the first quarter. For the full year, the net capitalization is expected to be around SEK 1 billion for 2019.We see an increased here of selling and admin. But if we take away currencies, that increase was very limited. So this is mainly currency effect. And on deterioration of other, there is some negative nonrecurring items here in this year as well as some effect related to the high volume in the first quarter. Cash flow for the industrial operation is seasonally a limited quarter. The first quarter, seasonally down, where the working capital is being built up of the year-end before the normally strong second quarter, which is delivery quarter. And this was also the case this year when operating cash flow in Industrial Operation was limited to SEK 2.8 billion positively then, where we see a strong increase of operating income of -- to SEK 13.6 billion including then the gain from the sale of WirelessCars, whereas we have working capital impacting negatively with SEK 8 billion in total, where we have then the increase of inventory after year-end with SEK 6 billion. We have an increase of account receivables, reflecting the high deliveries towards the end of the quarter this year. And that was partly offset by increased trade payables, which is, of course, a reflection of the inventory as such. Capital expenditures were SEK 2.3 billion, and that was, of course, affected by the high capitalization of R&D expenses. If we take a look on the property, plant and equipment side, it was -- capital expenditure of SEK 1.2 billion, which was in line with last year. And here, we are guiding for 2019 to be somewhat above 2018 as relates to capital expenditures of property, plant and equipment. You see a pretty big effect on other noncash item, and that is actually the reversion of the game from the sales of the WirelessCars. Since this is considered as a divestment of operation, and thereby not included in the operating cash flow funded for the Industrial Operations then.Net cash for Industrial Operation improved some SEK 3.6 billion during the first quarter, reflecting then, of course, the positive operating cash flow and also the effect of WirelessCars of SEK 1.2 billion here. So we were some SEK 20 billion higher than we were end of March last year. Last week, Volvo received an important recognition for all the good work performed, the last years to improve the financial situation of the group when S&P raised their rating of the Volvo Group 1 notch to A-, a bit stable outlook. If we move from the group and Industrial Operations down into the segments, we can start with trucks. We had truck deliveries increasing by 12%, service sales increasing currency adjusted by 4% together with the business climate where price increases are possible to regulate. And on top of that, a positive or improved mix, the financials cannot be other than good and they were. Currency adjusted net sales increased by 14% to over SEK 68 billion, mainly related to the high deliveries in North America and Brazil compared to last year. The limited increase in Europe was related to Western Europe, offsetting lower deliveries to Eastern Europe and to fleets. The adjusting operating -- the adjusted operating margin for trucks improved some SEK 3.4 billion to close to SEK 8.3 billion giving an adjusted operating margin of 12.2%.And improved adjusted operating income was then besides the higher deliveries, the price realization and a positive mix also affected by a better capacity utilization and efficiency in production, impacting the per unit cost positively whereas last year, if I -- I mentioned it several times now, was negatively affected by the change overall programs in U.S. or in North America. FX effect for Trucks, SEK 0.7 billion. Construction Equipment. We have an improved currency adjusted net sales of 8%, reflecting then the increase of machine deliveries of 5%. Increases in all major regions for Construction Equipment. The increase in deliveries was particularly strong for SDLG and in China, whereas the increase of Volvo-branded product was limited, where we have strong increases in Europe and North America that were partly offset then by decreases in Southeast Asia and in Turkey. Product mix and price increases impacting top line positively, and currency adjusted service revenues, as you saw in one of Martin's slides earlier on, increased moderately, 2%, mainly related then to general slowdown in activity in Turkey and also an isolated dealer problem in Southeast Asia that is about to be solved, so we hope we have that explanation only for the first quarter this year. So it will be back to normal business in second quarter here.Year-on-year improvement, trajectory for operating income in -- continued to improve or continued to deliver here in the first quarter for Construction Equipment. It increased some SEK 750 million compared to last year to SEK 3.646 billion giving adjusted operating margin of 15.1%. That is an improvement of 1.3%. The improvement was mainly then related to the price realization and somewhat heavy product mix. When we say that, we mean an increase of heavy wheel loaders and articulated haulers that was more pronounced than the rest. And on top of that of course, the higher sales as such of 5%. FX had a positive effect of SEK 380 million. Buses. Financial performance for buses improved substantially compared to a sluggish first quarter last year. Deliveries of buses increased some 300 units, positively affected by the deliveries to TransMilenio in Bogotá, but we saw small increases across the globe except then for Europe. Vehicle's net sales increased by 40%. 14% currency adjusted. And compare then to a strong first quarter last year, service only increased by 2% in the quarter. But as I said, first quarter last year was really strong. Improvement of adjusted operating income of some SEK 300 million to SEK 294 million in the quarter. That was related to the volume directly as more vehicles bring in gross income into the profit and loss statement and also indirectly as we get better capacity utilization. FX impacted positively with SEK 125 million. So a good start, 2019 was actually well-deserved for buses. A lot of hard work there, where tight cost control in combination with now improved deliveries gave momentum. Even though operating margin improved to 4.3% for the quarter. This is -- there is more to be done here and the ambitions are higher.Moving over to Penta. In the off-demands of the prebuy of Euro Stage V before year-end 2018, we anticipated and expected a decrease of delivery of industrial engines and that happened. And furthermore, the deliveries of smaller marine engines were negatively affected by supplier constraints and also to some overstock situations. So as a consequence, we've got a product mix in the quarter that was more heavy than normal. So the decrease of engine deliveries of 9% was then offset or compensated by the heavier mix, giving a small increase of engine net sales currency adjusted, whereas service revenues continued to improve FX adjusted, 10% up, reflecting higher -- high deliveries to last year and also a focus to deliver uptime to our customers. So all in all, 3.5 -- SEK 3.4 billion of net sales and an adjusted operating income that increased SEK 175 million to SEK 684 million for the first quarter, mainly then related to the product mix and also the strong service sales and deliveries. FX contributed with SEK 40 million -- close to SEK 40 million, and operating margin improved to a healthy level of 20%.Financial services. The strong demand of vehicles and machines were, of course, affected here as well where we see new retail financing that increased some -- to SEK 15.9 billion in the quarter. Portfolio continued to perform well, reflecting the good business climate for our customers, giving lower amount of overdues and credit losses in most markets. Credit portfolio increased to SEK 157 million at the end of the first quarter. That is an increase with 11% currency adjusted compared to end of March last year. Customer finance market continues to be highly competitive and putting then pressure on both our finance penetration but also on our spreads. Adjusted operating income was stable at 602 -- SEK 602 million compared to the first quarter last year, where profitable growth or profitable growth of the service or the portfolio was offset by lower spreads, higher operating expenses reflecting then the high activities and the volumes and somewhat increased credit expenses. FX had a positive effect of SEK 30 million, and profitability level measured at return on equity was stable at 14.6%.So a solid quarter and also a net margin for the group of double digits. It's not often that, that happened any longer in this industry, so it's -- was a really solid quarter. And by that, Martin, I ask you up on stage.

[Martin Lundstedt]

Thank you, Jan. Yes, maybe to make a summary. As we said, I mean it was a strong quarter both as regards net sales and also the leverage, and I would like to take the opportunity also to thank all the colleagues actually in the group for the fantastic work done. So by that, we open up for questions.

[Claes Eliasson]

Yes. We'll open up for questions, and let's start here.

[Hampus Engellau, Automotive Analyst]

Hampus Engellau, Handelsbanken. I have 3 questions. Starting off with Europe. If I remember correctly, you made some adjustments in the Europe production by the end of last year. And I was wondering, given where the orders are trending now, do you feel that your run rate is continuing at this level or do you make any changes? Second question is on North America, I'm just curious when you'll open up the order book for 2020. And if that is related to lead times, of course. And last question is on the EBIT margin during the quarter. If you can maybe just make some comments on where are you happy, where do you see more potential, et cetera. That could be geographies, it could be brands.

[Martin Lundstedt]

Okay. Thank you, Hampus. If we start, then with the European production. As we said, I mean, we have rather -- still a rather healthy level when it comes order intake. One should also recognize obviously that European production is, to a very large extent, also supplying into -- to other market areas primarily then to Asia, Africa, Middle East, et cetera. So we have done a number of smaller adjustments to the European production. We have also been working very hard with balancing, so to speak, our global supply mainly on powertrain where we feel that we have a good balance now. So I will not exclude that we might be doing some more adjustments during the year but no drama into that. That, I think, is more how we would like you to perceive Volvo that we are continuously working, so to speak, with different production rates in order to have a better follow-through between order intake inventories and deliveries basically. But we are not foreseeing any, I mean, dramatic changes if you put it like that. Then when it comes to North America, what we have said there is still, it's rather early, so to speak, during the year. There is no big need to open up to a bigger extent. As I indicated, we have already for certain deals, where it could be fleets or bigger tender activities or other type of orders where it's important for our customers to feel that it is placed according to their wishes. We are not, I mean, stubborn so we are stupid. But at the same time, we will have a rather cautious way of opening up so we have a good also healthy pressure in the whole downstream value chain when it comes to inventory levels, et cetera, because we feel that we have the right flexibility to supply that also. And a little bit more on margin, do you start on that, Jan, or shall I do it?

[Jan Ytterberg]

Well, I think we can ask more general -- and say more generally that, of course, we can improve continuously all over. So 11.8% is good. But of course, there are more to be done. And I mean across segments and truck divisions and business areas.

[Martin Lundstedt]

One area, obviously, I mean if we take, I mean the different parts of the business is still that when we look at the service penetration in the rolling fleet and population, there is more to be done. That is a longer ride, obviously to do that. We have had the healthy improvement of our penetration per installed unit, but obviously there is more to be done there as well. And then when it comes to geographical balances, obviously, we have also things to be done. But I think we are standing on more solid pillars across brands and regions than if you look couple of years back, but continuous improvements will continue is the plan at least.

[Jan Ytterberg]

What we also can say, Martin is, of course, that we saw in this quarter that we have been moving up production, and we'll get some stability into the system and where, so to say, our suppliers also can work with that stability, we get out some good operational leverage. And of course, we would like to continue with that.

[Claes Eliasson]

All right then. Should we see if we have a caller with us?

[Operator]

[Operator Instructions] And our first question comes from the line of Klas Bergelind from Citi.

[Klas Henrik Bergelind, Director]

It's Klas from Citi. So a couple of questions from me. Firstly, coming back to the weaker truck orders in North America. You get good price realization out of the backlog but you're cautious on taking on orders safeguarding the quality. And I obviously understand that this is to secure the delivery patterns, taking out previous double bookings. But how about pricing? When you talk about safeguarding, are you also talking about pricing? So is pricing on new orders a bit weaker versus what was realized in the backlog? Yes, we understand what you exactly mean by safeguarding the quality.

[Martin Lundstedt]

Yes. Thank you, Klas. No. That what we see -- I mean it -- first of all, yes, a little bit of background as I said. I mean we feel that given the strong order board that we have, the work that has been done basically during the last 3 years, almost 4 quarters by, so to speak, leading out, I mean, customers are taking deliveries. It's going according to plan and the new orders coming in also we see a stable situation when it comes to pricing on a good level because we took the opportunity also obviously with the launch and introduction of our products to get the better price realization. But we see a stability on that and that is good.

[Klas Henrik Bergelind, Director]

Okay. That is good. And my second one is on the European side. MAN, we know has been pretty aggressive on its market share ambition in Germany last couple of years, and they want to rollout this strategy in other parts of Europe, and they also have a new truck range eventually. Scania is still relatively early in the penetration of their NTG. So is this weaker market share only contained to Germany or are you seeing initiatives elsewhere? It seems like the pricing backdrop in Europe is getting a bit more competitive because, Martin, you're also talking about protecting profitability as a second reason outside of Germany for these lower market shares.

[Martin Lundstedt]

Yes. And I think you should read. As I said, there are 2 main reasons. I mean, the delta at the start of the year is not fully, so to speak, explained by the market mix and the strong German situation as you mentioned. But also the fact that we have been rather consistent on our price realization in a good market, where we are running on high capacity utilization and a strong, so to speak, installed rolling fleet. We are, of course, watching this very closely, but we believe that it is important to be consistent. We have seen improvements when it comes to our offerings, we are bringing better value to our customers in the marketplace, and we want to see that is also coming in as price realization. The third reason that I briefly mentioned is also little bit of periodization effect when it comes to some of the bigger fleets and how they are coming in primarily on the Renault side and also some deals that we actually have been reluctant to take on some of the really customer -- competitive segments for Volvo. But -- so it's a mix. But we feel that we have -- actually a strategy, and we want to keep through that strategy.

[Klas Henrik Bergelind, Director]

Good, good. My final one is on CE and Penta. So a weaker kroner should have helped them competitively, and then, obviously, mix is a solid positive selling larger machines and engines. Could we talk about the mix here? Was this just do you feel 1 quarter positive or can the product mix be sustained for the year when you look at market share movements and what sits in the backlog? And then on Penta specifically. Can we now comfortably say that Penta is at a higher margin level as the mix is gradually shifting to the industrial side?

[Jan Ytterberg]

Maybe we can -- I can start with Penta. In this quarter, as I mentioned, there was -- the general effect on the industrial side related to the Euro Stage V but also we had supplier constraints and some order stock problems for some of the distributors on small marine engines. And that was the big part of this product mix effect that we saw in the quarter for Penta. And that will, of course, be sold on the Marine side. So I think we should look on Penta more compared to what they were last year related to product mix. And I'll take this quarter as a guarantee that we are changing something. And then we had a question on the VC on the product mix there. And I mean there were no specific things like we had in Penta in VC. So we will see more or less the product mix we have here. And you should remember that there was just a small difference between the small -- the medium and the big machines. I think they were up, the big machines were up 5%, and the rest up 4%. So I mean, that is small differences.

[Martin Lundstedt]

And I think generally speaking, to Jan's point, I mean, what we have been doing as part of the turnaround and, so to speak, continuous improvement activities for construction equipment is obviously that really reinforcing our focus on our core segments when it comes to general-purpose equipment and heavy equipment and for both wheel loaders, excavators and ADT's obviously. And coming back a little bit to Hampus' questions also, one of the key areas where we see improvement opportunities for VC is that we are all continuously strengthening also our presence in North America. That has been a little bit the same story as for trucks, meaning that we have had some really good dealers and some less performing. And we are working consistently now with bringing up that to a better level. So there are number of activities, and we are keeping focused on. And I think one very interesting launch as I mentioned was the 20-ton excavator also for Europe, where we have had a relatively weak position before so that we are looking forward to as well.

[Agnieszka Vilela, Research Analyst]

Agnieszka Vilela, Nordea. I have a question on the North American order intake. It was 5,500 this quarter which was 18,000 last year. Could you tell us how much of that delta was due to cancellations? And also, do you expect similar cancellations in Q2, or should we expect this kind of Q1 level to be a bottom for North America?

[Martin Lundstedt]

Yes. I think when it comes to the cancellation side, obviously, we have had a number of cancellations. But don't read that as real cancellations, more of a dialogue between us and the fact that we have an independent network. As you know, we are working with dealer groups in North America. And part of, so to speak, the cleaning or the high-quality order board focus, we have, so to speak, regrouped and taken out both when it comes to segments, what is in the pipeline between different dealer groups, et cetera, because one of the things that you don't want to see is that with a very high capacity utilization level that [indiscernible] is already up at stock at 1 yard and other dealer groups are sitting short. And so the absolute majority of the delta, and I think also, when I read a little bit what the financial community has been forecasting, the big delta basically is in the forecasting of North America. The absolute majority of that is the cautiousness of taking in orders for beyond end of 2019.

[Agnieszka Vilela, Research Analyst]

Okay. And then one question on Europe. You explained why your orders were somewhat lower this quarter than last year. But if you look at the whole market, do you see more cautiousness or more hesitance from the customers overall in Europe?

[Martin Lundstedt]

I mean when we look at -- I mean normal indicators as used prices, activity levels from our connected units, et cetera, we still see a strong activity level. And we -- that's the reason also why we reiterate our forecast that is somewhat lower than last year but still on good levels of around 300,000. When we look at our order intake, we are trending around that now. I mean you can say maybe a little, little bit lower than the 300,000, but that is 1 quarter. Depending a little bit how the order board looks like, et cetera, we feel that -- that's the reason why we keep the estimate basically.

[Jan Ytterberg]

What you can say, Martin, is of course, and I mentioned it, we saw lower or more in deliveries into Western Europe and lower deliveries into Eastern Europe. Eastern European customers tend to be a little more opportunistic in these kind of situations.

[Martin Lundstedt]

Russia being one example.

[Jan Ytterberg]

Russia being one example for instance. So there we see that there are customers a little more...

[Martin Lundstedt]

But that is very normal. They are very quick to react, also I mean it's still the cash flow driven economy. And I mean yes, more opportunistic basically.

[Claes Eliasson]

All right. So let's take a telephone caller and then we have up here.

[Operator]

Our next question comes from the line of Daniela Costa from Goldman Sachs.

[Daniela C. R. de Carvalho e Costa]

I have 3 things I wanted to clarify. One back to the debate about capacity utilization. I guess you're commenting the U.S. is pretty clear. But can you help us out in understanding capacity utilization on trucks outside of North America and also on Construction Equipment? That's my first question. Second question is you've commented on bus margins potential. Can you give us a little bit more of a color on sort of over the long run how you see that, and where is the limit there? And the third question, I guess, a lot of the up-cycle in terms of demand has been met by flexible labor. Has some of the end markets might turn? How quickly can you adjust flexible labor workers? How quickly do they actually get off from when you decide demand might be following, how long does it take it -- a month, 2 months? Can you give us just some color on that flexibility of the cost structure on the labor side?

[Martin Lundstedt]

If I start I can -- I mean when it comes to the capacity utilization outside North America, as we have said, we are still running on good and healthy levels even if we have been doing some adjustments. And that has been primarily related due to the fact that we have been in a positive way forced to rebalance between our main regions for certain core components. But still, when it comes to the truck productions, we see good utilization and we also have remaining flexibility to your third point because that is obviously one of the key things that we have been working with is flexibility when it comes to temporary labor or contracts, but also other type of measures to keep that to follow if needed.And it is very clear. I mean when you're -- where you are also to speak after a number of -- quite a number of years now with good markets that there is high attention for an industry like us to keep close eye on the flexibility levels, how do you utilize it, building up different scenarios, et cetera. So I think the flexibility is there. And depending a little bit on markets, but we can do short-term adjustments to that and to rather healthy, but rather big swings if we need to do it. And I think we have been proven that also. By the way, I think North America, we have been talking about Russia, Latin America, et cetera. And so -- and Construction Equipment similar situation. We still see good levels of deliveries. We are guiding for unchanged forecast that are on good levels as well, so we'll continue to have a healthy capacity utilization. On the bus margins, Jan indicated that, I mean this is absolutely step in the right direction. We are running a rather comprehensive activity program in order to make sure that we have a better stability and a better platform when it comes to the EBIT. We have seen, when we are up to 4%, 3%, 4%, that we are getting a good return on capital because that is another type of business. But 0 times something is still 0. So we need actually to improve the floor of that. We are not guiding for any specific financial target on buses, but improvements are needed and will come.

[Jan Ytterberg]

On the capacity utilization side, I mean we are still working on a very high level, and it is a stretch, supply chain in general. But it's more stable than we saw, for instance, in the fourth quarter, especially North America, but also in Europe, there is a strange situation.

[Martin Lundstedt]

Yes. If you ask our suppliers and our purchasing and production teams, I think they can confirm that it's still rather heated out there.

[Jan Ytterberg]

And flexibility-wise, we, of course, have the time banks which will take sort of the first buffer if something happened and then we have manning and flexibility, et cetera.

[Martin Lundstedt]

A number of performance steps.

[Daniela C. R. de Carvalho e Costa]

A quick follow-up. How many people do you have on the time banks?

[Jan Ytterberg]

It's not people. It's hours.

[Martin Lundstedt]

On the time banks. And then in addition to the time banks, you have flexible contracts that we are not disclosing. But as we said, that has been one of the key strategies for quite some time now, so we are keeping a close eye on that.

[Erik Pettersson-Golrang]

Erik Golrang, SEB. I have 3 questions. The first one on, you had price as a key contributor to both trucks and construction equipment. If you look on Q1, the balance between price increases and cost, is that extraordinarily high compared to what to expect for the rest of the year and how the year normally pans out? I mean, is this really a sweet spot for sort of net pricing in Q1? And then the second question is on the service business, 4% FX-adjusted growth for trucks. Given what you talked about, high investments in that for a long period of time, you have high activity levels, you have the fleet entering a sweet spot. Isn't that a rather low number? And then the third question trying to square some of your comments here on the high margin, and I didn't really feel that there was a burst of areas that you saw improvement in and then perhaps a bit of declining market share here and there. Are you indicating that you might be a bit more aggressive on price to gain back share perhaps?

[Martin Lundstedt]

To start with, I think I mean when it comes to the price realization and such, that gives, of course, a platform for maneuverability, if needed, because we cannot allow ourselves to fall to whatever level that everyone understands obviously. Having said that, for the time being, we feel that, as I said also, the strategy that we have been choosing given the high capacity utilization levels, the balance between the regions has been the right ones.So let's see how that will materialize moving forward. But we have said that we should be pretty firm on this going forward, but we have some flexibility and maneuverability given the things that we have been doing here.When it comes to price realization, I think what you see is an effect of the activities that we did during last year, and we have -- that has been keeping up so far. And that is, I mean, that is our big plan as we go forward. Then when it comes to the service. Maybe you actually saw the article yesterday about the quarterly economy and the pros and cons of that. And I think this is a typical example where you can argue whether you can measure, so to speak, improvement in absolute numbers during 1 single quarter. I think that the proven record actually has been that we have been improving the service sales during quite a long period of time and more frequently, north of 5% than below 4%. If I have to choose, I agree to you, I think that it should be more. But I think it's a little bit.

[Erik Pettersson-Golrang]

A little bit low?

[Martin Lundstedt]

It's a bit low but it's too drastic to say that it's a conclusion that we have another change in trend. We still feel that when it comes to our main activities, it's working fine about penetration per vehicle. We still think that activity level and the comparison figures are getting higher obviously. So -- but it's, I mean, we have said that we want to see growth north of 5%, and it was not north of 5% this quarter.

[Claes Eliasson]

All right then. Should we let a telephone caller come in?

[Operator]

Our next telephone question comes from the line of Alok Katre from Societe Generale.

[Alok Katre, Equity Analyst]

Just a couple of questions from my side. Firstly, just sort of interesting to see the comment about rising truck inventories in the U.S. You obviously talked a lot about the U.S. market. Just wondered what prompted you to sort of kind of flag this in? And then also why -- what was the reason why, let's say, the sellouts, at the retail or the dealer level were a bit weaker than the sell-ins in a way when the underlying market would suggest that there should be a bit more of a strength. So I just wonder how we should take these in the context of the remarks that you have been sort of making and how we think about the truck market in the U.S. going over the next couple of quarters or so just from the inventory perspective? So that's question #1. Question #2 was a bit more on the IFRS 16 transition. So I saw that the liabilities on the lease side increased by about SEK 6.2 billion. But if you just help us understand A, what most of these pertains to? Is it real estate or is it something else? And then also the annual effect of this change in the EBIT line and also on the operating cash flow.

[Martin Lundstedt]

Now on the inventory level in North America. As we were indicating, I mean, the quarter, actually started rather weak when it comes to deliveries. We had a number of shortages, so we had quite some truck standing with 1 or 2 shortages per unit during the beginning of the quarter, and it was gradually resolved actually primarily for Volvo trucks from mid-February you can say and onwards, meaning that we had very strong deliveries in March. Some of it was materials -- materialized as market share for retail sales because we were north of 10% market share but some of it is still, so to speak, in the pipeline, and I think that is the primary reason for it, so it should not be a read certainly, so to speak, increase but more internally related. Then the...

[Jan Ytterberg]

IFRS 16. Well, starting with the effect on the result, it was less than SEK 50 million in this quarter, meaning then that it is less than SEK 200 million if you take a look on the full year 2019. So in comparison, not a big effect. And of course, the counter side of this is increased interest expenses, and that is also what you see if you take a look on the financial net that we have some higher interest expenses, and that is related to this IFRS 16 accounting where you move a part down into the financial net of the rents you are paying. SEK 6.2 billion of liabilities and asset increased for the group. That is, of course, as in a traditional industrial company very much related to real estate, forklift trucks and then cars. There you have the 3 main categories.

[Martin Lundstedt]

I fully agree.

[Alok Katre, Equity Analyst]

SEK 200 million?

[Martin Lundstedt]

SEK 200 million. Less than SEK 200 million on 2019 EBIT effect compared to. A little bit difficult to compare because we didn't do it in 2018. But I mean if we would have had -- not IFRS 16 this year, it would have been SEK 200 million or less than SEK 200 million lower EBIT for '19.

[Claes Eliasson]

I think we have a question up here. Yes?

[Mats Liss, Equity Research Analyst]

Mats Liss for Kepler Cheuvreux. 2 simple questions to finish with maybe. What about the cost you have had in the U.S. due to the production problems in Volvo? And secondly, could you give some brief comments about your view of next year, 2020?

[Martin Lundstedt]

On the cost. I mean Jan was into it a little bit, I mean it is so that we still have a stretched supply chain, so we have higher than, so to speak, normalized cost. But sequentially, it has been better and better, and thereby also since we had a rather high cost level, and that was also a -- with extraordinary costs for the launch beginning of last year in North America. But you can say both quarter-on-quarter and sequentially better, so to speak. But still, there are extraordinary costs when it comes to transport over time and all type of extra work, but better and better.

[Jan Ytterberg]

Exactly.

[Martin Lundstedt]

And we are not giving any forecast of the market for 2020 now, that will come. That is one of our cliffhangers, Mats, so you will...

[Jan Ytterberg]

For the Capital Markets Day maybe.

[Mats Liss, Equity Research Analyst]

Just coming back to the second quarter, it's still early days I guess, but orders are coming down and I guess the second quarter is normally very strong and well, should we expect a seasonal pattern too?

[Martin Lundstedt]

I think -- I mean the expectation is that we say that we are forecasting unchanged forecast as we had already in the quarter 4 reporting on good levels for the total market. I think that is awesome.

[Jan Ytterberg]

And order books, I think it's important to state that customers are standing by their orders, so meaning that...

[Martin Lundstedt]

Yes.

[Jan Ytterberg]

We are having high order book. We are delivering that out and customers are taking their vehicles and machines, which is, of course, very important. So same pattern as we saw earlier years.

[Claes Eliasson]

All right, then. Thanks for coming. Go out, enjoy the good weather and see you next time. Thank you.

[Martin Lundstedt]

Thank you.