Mercedes-Benz Group AG

XETRA:MBG

Earnings Call Transcript 2022-Q2

[Steffen Hoffmann, executive]

Good morning, ladies and gentlemen. This is Steffen Hoffmann speaking. On behalf of Mercedes-Benz, I'd like to welcome you on both the telephone and the Internet to our Q2 results conference call. We are very happy to have with us today Ola Kallenius, our CEO; and Harald Wilhelm, our CFO.

In order to give you maximum time for your questions, Ola and Harald will begin with an introduction, directly followed by a Q&A session. The respective presentation can be found on the Mercedes-Benz IR website.

Now I'd like to hand over to Ola.

[Ola Kallenius, executive]

Thank you, Steffen. Good morning, everybody, and welcome. In Q2, we demonstrated as a company resilience in a challenging environment. The global supply chains were influenced by the semiconductor shortages, the war in Ukraine as well as renewed COVID lockdowns in China. At the same time, we saw strong demand across Europe, U.S. and China with very high order backlog, which is due to the semiconductor shortage. The lower sales in some markets in Q2 are only driven by availability restrictions.

We stay vigilant towards the macroeconomic and geopolitical developments. However, we think we have good reasons to be cautiously confident. We expect the high demand in relevant markets to continue for us also in Q3 and Q4. The semiconductor supply remains the main operational issue which we're working with our suppliers on. And we have, I believe, the most attractive product portfolio ever, and several key products are going to hit the market also in the second half. One good example is the EQS SUV, which is in ramp-up.

So let's have a look at the key figures of the second quarter. Whereas we had slightly lower sales volume, we increased revenue on a group level by 7%, and the EBIT by 6%, which means that the group EBIT adjusted amounted to EUR 4.9 billion. The free cash flow of EUR 1.4 billion was lower than previous year, but this was influenced by higher working capital as a result of the semiconductor shortage. Harald will go into more detail on that. Our net industrial liquidity sitting at EUR 19.1 billion, and this is after we paid a dividend in the second quarter of more than EUR 5 billion.

Now one topic that is discussed a lot in Europe is gas supply. And whereas Mercedes-Benz is a global company, Europe faces some risk in some scenarios of potential gas supply bottlenecks. All our operations are running stable currently. And of course, we have been working on our resilience. We have already reduced our gas consumption by 10% while maintaining full operations. And we have put together plans to be able to reduce gas consumption by up to 50% in Germany.

How we're going to do it? First of all, in some cases, we will be able to replace gas with green electricity. And by the way, this is our long-term goal anyway towards the path of CO2 neutrality. We will increase process efficiency across our operations, and we can also, in some cases, replace gas with fossil fuels. So we are preparing ourselves for scenarios and, of course, working very closely with authorities to make sure that these scenarios, if needed, can be put into operations.

If I go over to Mercedes-Benz Cars, what are the key messages for this past quarter? Despite a semiconductor-induced 7% drop in deliveries, revenues at Mercedes-Benz Cars were up 8% and adjusted EBIT up 20%. So I think we're proving from quarter-to-quarter that our strategy is on track. The profitability in this quarter is driven by positive net pricing, a very healthy product mix, so our focus on profitable growth is certainly paying off. As I mentioned, we have a very attractive product portfolio. We launched the new GLC, which is one of our top sellers. Also the new EQE Sedan has started sales. So the product offensive on electric vehicle is continuing, and we're now in production ramp-up of the EQS SUV that we'll launch soon.

On the technology side, as you know, at the beginning of the year, we presented a research vehicle that we call EQXX. We drove 1,000 kilometers on 1 charge with a battery size that is equal to what you would find in some of your vehicles on the road today. So efficiency gains on this vehicle has been phenomenal. We took it for another ride and actually upped the ante to 1,200 kilometers. And some of these technologies that you see in EQXX, only a couple or 3 years from now, you will see some of those technologies in series vehicles.

We're also investing into our people. We know that as part of this transformation, we need to train and requalify our people for an electric future, for a digitized future. And we have put together a plan in this decade to spend EUR 1.3 billion in training of our staff and making ourselves future-ready, future-proof.

We also had an event in May where we talked about the profitable growth side, economics of desire side of our strategy, what we're going to do to our product portfolio and how we can make the company more successful and more resilient for the future. We have also had one change in our management on senior level, hired Paul Gao as our new Chief Strategy Officer, who has very deep understanding not only of the automotive industry, but also the Chinese market and the Asian market. And that is where much of the growth lies in this decade to come.

Continuing with Mercedes-Benz Cars, we have also worked on preparing our production network for our all-electric portfolio. What we're focusing on here is both efficient but also flexible scaling of the next-generation electric vehicles across all our plants. The models for entry and core luxury will be produced in our Kecskemét plant in Hungary from 2024 forwards. The Bremen plant will manufacture cars based on the MB.EA platform. AMG.EA will be built in Sindelfingen, and the MMA platform, which will be the first of these 3 architectures, will be produced in Rastatt. And the battery systems to be supplied by the global network follows the assembly plants. So we are really now future-proofing our production network.

If you continue with a look at the top-end luxury and electric vehicle sales, while the total sales decreased, xEV sales increased by 7%, and Mercedes-Benz battery electric vehicle sales increased by 134%. We see strong demand in all segments of our EV portfolio. And until June, we received more than 33 orders -- 33,000 orders, that is, for the EQS, and 28,000 orders for the EQE. So sales are on track for the fiscal year 2022. However, in Q2, both battery electric vehicle, plug-in hybrids as well as top-end vehicle sales were impacted by chip supply constraints. So even if we try to direct this, in some cases, if a specific chip is not available, it can hit these production numbers as well.

And in terms of the battery electric vehicles, the Shanghai lockdown also impacted one of our suppliers on Tier 2, which makes a component that literally goes into every single plug-in hybrid and BEV. So we were a bit lower on that than we had planned in Q2, but we're looking to change that dynamics in Q3 and Q4 and increase production both on the top-end vehicle side as well as on the battery electric vehicle side. Mercedes-Maybach is going from strength to strength with a new sales record.

And with that, I would like to hand over to Harald that will give us a deep dive on the numbers. Harald?

[Harald Wilhelm, executive]

Thank you, Ola. Will do, and hello, everybody. Let's have a look at the numbers. Page 8 for Cars. Well, I mean, sales were down by 7% due to semi and COVID lockdown in China. Revenue up by 8%, thanks to pricing and mix. ASP rose by 9% to EUR 70,000. Just a reminder, we calculate that number without the BBAC sales volume, without the BBAC parts by parts revenues and without smart as we introduced during the EOD CMD.

The EBIT adjusted, up by 20% to EUR 3.8 billion, and also the CFBIT adjusted, up 18% compared to second quarter 2021. A special word on China, in that challenging Q2 environment, we have been able to minimize the impact on Mercedes-Benz's main operations in China. Our wholesale in June rebounded significantly and surpassed May by more than 40%. We also continued to achieve a strong pricing premium. You see that the mix as well was very healthy, with the S-Class achieving a double-digit growth year-on-year. And also on the Maybach, we achieved the best ever sales for the first 6 months. So overall, we maintain a strong position in the luxury segment in China, and we'll be bringing the most desirable cars to China's market, including the NEVs.

Further on to Page 9, the EBIT walk. The bucket volume structure net pricing increased significantly by EUR 1.4 billion. Obviously, the volume impact, I mean, is negative, but at a low 3-digit million figure. I mean, that means that structure and net pricing are both significantly positive. Net pricing is a result, again, combining further reduced discounts and the list price increases, which we mentioned in the first quarter. Net pricing is the strongest contributor in this bucket.

In the industrial performance, we see higher raw material costs and some onetime commodity charges. In the second quarter, I mean, again, we were successfully compensating raw material cost and inflation by strong net pricing. On the fixed cost development, we continue to restrict discipline. In the others, we see a positive valuation effect from the discounting of noncurrent provisions and some negative valuation effects from some participations. Overall, EBIT adjusted and booked at around EUR 3.8 billion, return on sales of 14%.

So on the cash flow, Page 10, CFBIT reported, EUR 2.4 billion, adjusted, EUR 2.9 billion. Working capital charge was EUR 1.2 billion. We continue to build unfinished, semi-related unfinished inventory and products consciously in the second quarter. Why? That will provide an opportunity now for the remainder of the year, both in terms of margin as well as in terms of cash flow. So not only that the number of inventory went up but also I mean, the mix. That means heavier structure, good margin vehicles coming off the line in the second half of the year. And we now have achieved, with the second quarter, the turning point in terms of the inventory.

Financial investments of EUR 500 million, chiefly due to the ACC investment. The investments overall in PP&E and intangible, I mean, are balanced with depreciation. So again, you can see that we demonstrate our targets of cash conversion. In the other line, you see the adjustment on the BBAC result between the equity result and the divi, which we cashed in, in June. And on the adjustments, you see the usual legal restructuring as well as the ACC investment.

On the Vans side, market demand also for Vans was strong. Despite the constrained semi supply situation, unit sales were at prior year level, in particular, in the U.S. market, where we had the best ever Q2 sales of the Sprinter and the Metris in the U.S. The double-digit margin reflects a healthy mix and especially also on the pricing in the Vans segment. We are progressing as well on the electrification of the vans with EV sales in the quarter, I mean, doubling. And furthermore, I mean, in the remainder of the year, we will add the EQT and E-sedan to the portfolio.

On the financial side of the van, Page 12, sales up 2%, revenue 12%, and you see a good mix and pricing in here. EBIT adjusted is flat at EUR 414 million and decent cash generation was 11% up.

Page 13 on the bridge for the Vans side. The bucket, I mean, volume structure net pricing is significantly up by EUR 230 million. You see, in particular, net pricing at work here, but also, I mean, the mix favorable. The industrial performance is negative. Same elements as on the Cars side, higher raw material prices and some supply constraint-related inefficiencies in the production.

Furthermore, we have increased R&D spend for the EV transition. And here, you see the investment in eSprinter as well as in the new VAN.EA architecture. The others are mainly effects in connection with the discounting of the noncurrent provisions, same as for Cars. And with this, EBIT adjusted is at EUR 414 million, return on sales at 10%.

On the cash side, Page 14, working capital charge of EUR 116 million (sic) [ EUR 160 million ]. Again, also here, I mean, increase of new vehicle stock. Same thing related to semi but pretty well balanced by higher level of trade payables. Depreciation and amortization impairments, I mean, are higher than the net investments in PP&E and intangible assets, that is chiefly due to cyclical investments. In the full year, the net investments are expected to increase as guided due to the progress on the EV transformation.

Further on to Mobility, Page 15. The new business volume has been impacted also by the supply constraints, semi-related. We see a lower penetration rate, I mean, chiefly to a higher level, I mean, of competition in the financial services business as well as increasing interest rates. And saw some solid used car prices and inflationary developments motivate to more customers to cash buys rather than to lease. Despite the increase in interest rates, interest rate margin remains stable. Net credit losses remain very low, but the weakening macro outlook results in an increase of the cost of credit risk, which we had to take into account in the second quarter. Furthermore, realigned the mobility joint ventures with the divestment of SHARE NOW, which we completed recently.

On the financials, Page 16, I already mentioned in the new business decreasing by 18%, also related to the truck spin-off, the supply bottlenecks and the lower penetration rates. The portfolio increased by just 1%, mainly due to FX in the U.S. dollar and the EBIT adjusted decreased as expected. And let's have a look on that a bit more in detail on the next page, Page 17.

You see that the return on equity continues to be on a healthy level of 17%. How could we get there? The interest rate -- the interest margin remained stable. Last year, we had a release of credit provision in the second quarter and no need to build up credit provisions for new acquisitions in this quarter. We had regular credit provisioning. Despite the actual credit losses staying very low, we factored in the weaker macroeconomic circumstances, and that caused to some risk provisioning in the second quarter. Furthermore, the lower volume of business due to the truck spin-off had an impact on the margin in the second quarter. For the full year, performance should stay at a healthy level but normalizing as we guided for already at the beginning of the year.

Page 18 on the group side, Cars, Vans, Mobility I already explained before, so leaves us with the reconciliation slightly positive. That includes we had equity result from Daimler Trucks, which is partially offset by the depreciation of assets from the PPA and some further effects from the deconsolidation result of Mercedes-Benz Mobility activities related to the spin of the as-called Phase 2. The EBIT adjusted at the group level at EUR 4.9 billion. The adjustments of EUR 317 million related to diesel and to the M&A effects of the Mercedes-Benz Mobility Phase 2 I just mentioned before. Booked EBIT, EUR 4.6 billion.

On the cash side, Page 19. Same thing on the CFBIT I explained for Cars and Vans, leaves me with the income tax reflected already at the beginning of the year that the cash taxes would go up significantly compared to 2021 level. Obviously, higher earnings and low offsetable tax, less carry forwards have an impact. That means that the second quarter cash taxes amount almost to EUR 1 billion. The other reconciling items mainly include centrally processed onetime payments. With that, the free cash flow of the industrial business is at EUR 1.4 billion.

On Page 20, net liquidity, we ended the quarter with EUR 19.1 billion. The cash flow, obviously, was positive, was EUR 1.4 billion, as we debated before. That includes also the investment of close to EUR 500 million chiefly related to the ACC investment. But then in particular, we paid a divi of more than EUR 5 billion in May. Others is related to positive, in particular, U.S. dollar effects. So the NIL is at a very strong and comfortable level, healthy liquidity, good in these times, good for resilience, good for flexibility, good for optionality.

Now let's turn to the outlook, Page 22. On the divisional guidance first, and please read the assumptions on the chart carefully. The macroeconomic and geopolitical conditions continue to be characterized by an exceptional degree of uncertainty. A key factor contributing to this is the war in Ukraine, with its effects on supply chains and the availability and the development of prices for energy and raw materials. Further effects due to the rapidly changing situation in Russia and Ukraine are not currently known and have not been taken into account in our key figures but could possibly have substantial negative consequences for our business activities, should it escalate beyond its current state.

In addition, the continued very high inflationary pressure for consumers and companies and the associated central bank increases in interest rates as well as ongoing bottlenecks in global supply chains make the outlook more difficult. Not least, for the further course of the pandemic, in particular in China, holds uncertainties for the expected development of the market. Especially in those volatile times, one is well advised to have all sensors and all warning indicators activated. We are vigilant and ready to take -- to act quickly, if necessary.

Production planning and sales planning go hand-in-hand. We have shown every quarter since the start of COVID in Q1 2020 how to do this. Despite the macro risk, we see healthy and high-quality demand for our products for the second half of the year in all of our core markets, and we have solid order books. This healthy demand is driven by our strong product portfolio that is further developing during the course of the year. We continue to see demand being above supply.

So what does it mean for our Mercedes-Benz Cars guidance? We expect sales in H2 above H1 and, therefore, continue to expect sales slightly up in the full year as supply constraints ease slightly. On the return on sales adjusted, so far year-to-date, we have achieved around 15% return on sales adjusted. It is clearly our ambition for H2 to continue with this H1 run rate with all levers that are in our hand on top line and on cost. However, with respect to the current macro uncertainties, we want to be prudent and assume a general market environment protection. Overall, our guidance for return on sales adjusted for the full year is now at 12% to 14%.

Let me shortly walk through how we get from H1 to H2. Price and mix expected to stay on a high level. Top-end luxury sales grows more than 10% confirmed for the full year. Cost targets are clearly set. So you see the strategy execution is at work. Headwinds, we expect from material costs, the already mentioned higher R&D expenses as well as some effects from the used car business are assumed to result in a -- around a 2% loss point negative effect in H2 compared to H1.

Additionally, as mentioned before, the current macro and political uncertainties, we continue to assume a general market environment protection. This could be, for example, for further raw material increases or inflationary trends. Our target is clearly to compensate these by net pricing as demonstrated in the H1, and we will continue to do so in the remainder of the year.

Cash conversion rate for Cars unchanged, 0.8 to 1.0. PP&E is now significantly below. As you can see in the performance of the H1, R&D for Cars now significantly above basically due to the investment in M&A and AMG.EA.

On the Vans, division guidance unchanged. Sales remained slightly above 2021 with a return on sales of the H1 of 11%. We also see in the second half of the year some increase in material costs and a bit of a mix and as well, general and market environment protection. So full year guidance confirmed at 8% to 10%. Invest in PP&E and R&D significantly above, unchanged, and the cash conversion rate also at 0.6 to 0.8 is confirmed.

On mobility, the adjusted return on equity is in the range of 16% to 18%, in line with previous, I mean, outlooks and predictions due to the margin headwinds due to higher refinancing cost, expected lower contract value volume and normalization of cost of credit risk.

If we look on the group KPIs for the guidance, Page 23, what does it mean? With a strong net pricing and the mix, we now expect the revenue significantly above 2021. And also, I mean, that with a strong H1, we increase the group EBIT guidance from prior year level to slightly above. As well as on the free cash flow for the industrial business, we change from slightly below from prior year level. Bear in mind, please, of the higher cash taxes in 2022 compared to 2021. And on CO2 emissions, we remain at prior year level.

And with this, back to you, Ola.

[Ola Kallenius, executive]

Thank you, Harald. So what are our strategic priorities for this year? First and foremost, scaling EVs. We did increase our BEV sales significantly in the first half of the year, even though, as I mentioned before, we were held back by 1 supplier constraint associated with the COVID lockdowns in the Shanghai area. But we plan to accelerate in H2, and we want to have our global xEV sales to be more than 25% up versus 2021. And in that number, every second EV sale should be a BEV. In 2021, it was every third.

We are also going to continue our path towards profitable growth. Our sharpened focus on business model and product portfolio, as we presented to you in the Economics of Desire event in May, we will accelerate our efforts in car software, and we will give you an update in Q4 on what we're doing there and how we're coming along with MB.OS, which is scheduled to hit the market with the MMA architecture.

Needless to say on the operational side, it's all about alleviating supply constraints. We have already made several contracts directly with chip makers, so we have started the process over the last 12 to 18 months to make deep sourcing in the semiconductor space. But as I mentioned, semiconductor constraints will continue throughout this year and most likely into next year as well. So it is and remains our main operational challenge.

We will not let down on cost. We will focus on this. We are on track as far as our fixed cost targets for this year but we cannot take the foot off the gas there, we have to stay vigilant. So all in all, Mercedes-Benz is withstanding headwinds. And at the same time, we will accelerate the transformation.

The key is an excellent team. I want to take this opportunity to thank all of my colleagues for their outstanding work around the world.

And now I'm looking forward to your questions.

[Steffen Hoffmann, executive]

Thank you, Ola, and thank you, Harald. Ladies and gentlemen, you may ask your questions now. [Operator Instructions] Now before we start, the operator will again explain the procedure.

[Operator]

[Operator Instructions]

[Steffen Hoffmann, executive]

And the first question goes to Tim Rokossa from Deutsche Bank.

[Tim Rokossa, analyst]

It's Tim from Deutsche Bank. I would have 2 questions, please. The first one is on demand, and the second one on supply financials. Firstly, we've now heard from a couple of OEMs that they actually start to see their order intake being down year-on-year. Can we just confirm that the right interpretation of what you guys just said is that you don't share that view? You really see no impact on your order intake from all the macro problems of which there are ample out there? And how long does the order backlog carry? Do we always talk about Q1 2023?

And secondly, when we think about supply and financials, Harald, given what you just said is the right interpretation that from the working capital release, which is primarily top-end vehicles as we understand or at least to a large degree, we should see a very strong free cash flow generation in H2. And I know you want a buffer for macro headwinds and you want a buffer for the pricing, but obviously, commodity prices started to go down already. Would you rule out that there is a situation where you see in Q3 or Q4 a margin that is actually above the Q2 levels if everything works out the way that hopefully does?

[Ola Kallenius, executive]

So Tim, I will start with the topic of demand. Yes, it is true that we see healthy demand across all main markets as we sit here today. One thing that we looked carefully was what's going to happen to China after the Shanghai lockdown because, of course, if a large part of your dealers for a couple of months are closed and people can't leave their homes, you have this dent in China in April and May. But as we saw back in 2020, once it opened up in June, it swung back up again to a very healthy level.

So whereas we're not oblivious to what's going on, on the macroeconomic front, inflation, interest rates, we're watching this. We will be vigilant and we will watch how this develops. We have strong demand now. And maybe it's also an effect of being in the third year of, should I call it, artificial constraint. I mean, the COVID year 2020 and now almost 2 years of semiconductor. So there must be an effect sitting in that as well, combined with a very attractive product portfolio and all the new battery electric vehicles that we launch.

It's impossible to say exactly how long the backlog would last because you have to divide it up between build-to-order and build-to-stock markets. But for the second half of this year, we don't believe that demand would hold us back. The main constraint for the second half is semiconductors and not demand. I hope that answers your question.

[Harald Wilhelm, executive]

And Tim, on the second half year trading, well, I mean, as we said before, I mean, we had 15 in the first half of the year. It's clearly ambition to keep that run rate going. And if we see opportunities, I mean, definitely, we'll try to catch. And I mean, the top-end vehicle is one of these opportunities in the second half of the year is in good part of the inventories, although the vehicles sit in the inventories.

So from that side, I think you understand what our ambition is, but we want to be realistic. Therefore, we anticipate, I mean, what we can see. We still see an increase in the material cost and the R&D, and we expect some softening on used car side. I mean, that's what I labeled in the kind of a 2%, I mean, ROS dilution in the second half of the year. So it brings you from 15% to 13%.

And then, I mean, a general, I mean, risk contingency, which I think in this current environment, I mean, is good to assume. We did that at the beginning of the year in the first quarter. I think, I mean, worked out pretty well so far, I would say. So you understand that we are somehow protected, but I would not rule out upside opportunities.

[Tim Rokossa, analyst]

Very clear and very impressive.

[Steffen Hoffmann, executive]

And we continue with José Asumendi from JPMorgan.

[Jose Asumendi, analyst]

José from JPMorgan. Couple of questions, please. Can you talk a little bit around DRIVE PILOT? What it means for you? In which regions have you implemented DRIVE PILOTs? And what could this mean in terms of earnings for you in the coming quarters or just in terms of the reception you have received on the vehicle.

And the second question, Ola, you're enjoying, I think, a very strong pricing power across the whole business. Obviously, this is a result of your success in the products. But also the industry incentives are very low. So how does it work for you to protect this pricing power in an environment where your competitors could start giving higher incentives? And do you have in mind the level of inventories you want to keep across regions? Or how do you think about production returning to these pre-pandemic production levels?

[Ola Kallenius, executive]

The DRIVE PILOT, especially now the Level 3 feature is in the German market as we speak in the S-Class and the EQS. So kudos to the technical team for taking this very important step. And we're looking at also getting this technology introduced in the United States, preferably by the end of this year. I look at this as one step on a longer journey. We know that autonomous drive, assisted driving is one of the most attractive features that is coming with the technology breakthroughs that we see, better sensing technology, more computing power, artificial intelligence-based software stacks.

So it's just one stepping stone on a longer journey that will continue throughout the whole decade. You cannot pick it out now as 1 driver for specific profitability in 1 year. But as I look at this from mid- to long term, can ADAS, can assisted driving be a contributor to both revenue and profit pools as we develop the technology? Definitely yes. And I think this is one of the things that we'll talk more about when we meet later in the year to talk about our software strategy.

With regard to pricing power, even before we got into this semiconductor constraint situation where demand sits above an artificially constrained production, we had already taken measures on our second pillar of our strategy that we call profitable growth to not chase volume but to chase value, look at sales channels, look at contribution levels on the individual models and make sure that we go to market in an intelligent way so we can grow profitably.

So I think the core to maintaining this, even if supply constraints should ease, is to have a very healthy balance between demand and supply and not get into a push mode where you are then driven by incentives. To be able to do that, we've got to work on our fixed costs. That's the whole point of adjusting your production network to a position where you can also have robust profitability maybe at a little bit lower volume. So it all ties together. In general, we can say that our strategy of profitable growth and a thoughtful go-to-market approach will remain regardless of the semiconductor situation.

[Steffen Hoffmann, executive]

We continue with Patrick Hummel from UBS.

[Patrick Hummel, analyst]

It's Patrick from UBS. I will not follow up on demand because it really seems like you're very positive and confident on that point. Let me focus on some headlines regarding the German EV subsidies. There were some media articles yesterday about a reduction of the BEV subsidies and a complete phaseout of the plug-in hybrid subsidies.

I'm just wondering because if there is a time line now for the reduction and a volume cap, this could create a kind of a rush situation, but you're, like everybody else, I guess, just supply constrained. So I wonder how much flexibility you have on the BEV side when it comes to pull-forward effects and things like that and how that could affect your mix.

And specifically for the plug-in hybrids, of course, as you mentioned, you still have every second car in xEV being a plug-in hybrid. And I would assume Germany is one of the biggest markets for plug-in hybrids. So how does that change perspectives for the PHEV segment beyond the end of 2022?

And my second question is on battery sourcing. There have been lots of headlines from your peers about own gigafactories, about big raw material contracts. And if you can just shed a little bit more light in terms of your time lines and how things are going with ACC, how much of the raw materials you've actually already procured directly just to get a better feel because that seems to be a mission-critical area and I feel others are a bit more transparent than Mercedes.

[Ola Kallenius, executive]

Yes. Thank you, Patrick. Let me just say this as a general statement with regard to EV incentives. That is a very heterogeneous picture across the world. Literally, every market has their own scheme. So you cannot put together your strategy in general terms based upon any one incentive scheme. And this path towards eventual full electrification remains firm no matter what happens on the incentive side in a market here or there.

With regard to being able to pull forward, it's really a supply-constrained situation. So we will, of course, build as many as we can. But it's down to the semiconductors. So beyond what I already said, the expectation for the second half would be, I don't think we can do anything more than that. I did mention that we had one hiccup with a supplier in Shanghai that kind of pulled us back, so we're ramping that back up now. So the second half will be bigger than the first half but an additional pull forward in this year would not be possible.

Yes, Germany, as the biggest market in Europe, is now overlooking its incentive scheme. We don't think, in general, that it will change the momentum. And one thing not to be forgotten, which I believe they have not touched, is what the Germans called [Foreign Language]. I wouldn't even know what the English translation for it is. But in essence, it is, if you have a car as a company car, you pay a certain percentage tax every month on the value of that car. And the benefit both for the BEV and the plug-in hybrid for that category, as far as I understand, will remain. And since we have a relatively high amount of business cars, so people driving their Mercedes as a business vehicle, this will stay and will benefit both the BEVs and the plug-in hybrids beyond 2022.

On battery sourcing, we're making good progress. As you know, we have a range of partners that we're working with, primarily Asian partners. But now with ACC and that deal closed, as you know, we will have a European leg to that stool. All of those ramp-up plans are proceeding as planned. And also with our Asian partners, we are moving production for the European production of those cells to Europe, and you will see announcements for this. So there will be a regional strategy on battery cell manufacturing.

The raw material sourcing is a worldwide strategy that fits to the regional strategy, but you cannot procure the raw materials in each region separately. So together with each supplier, we look at the raw material supply chain all the way down to the mine for the world. And on battery cells, it will eventually be region for region. Some of this we have made public, some of it we have not made public, but you can rest assured that we're looking at the whole picture for all of our plants across the world.

[Steffen Hoffmann, executive]

And the next gentleman in line is George Galliers from Goldman Sachs.

[George Galliers-Pratt, analyst]

Firstly, I want to start with the gas situation. It sounds like Mercedes is a company making good progress in reducing your gas consumption as of today and also with respect to the midterm plan. But could you just maybe give us your thoughts on where your supply chain fits. And also, are there any key components such as foundries or paint shops where it's just simply not possible to completely substitute gas? As I think with the semiconductor situation, what we've learned is reduction is only as good as the weakest link.

The second question I had was with respect to the top-end vehicles. You mentioned that you expect growth of 10% year-over-year, which I think would equate to growth of around 20% in the second half. Is that aligned with your expectations? And had it not been for the benefit you got of the shortage, where could top-end penetration have been in Q2? Would it have been materially above the 15%?

[Ola Kallenius, executive]

With regard to gas supply for our -- for the supply chain, since the beginning of the war, there have been regular meetings between German industry and the German government to look at scenarios for gas and other things. And you're absolutely right. Even though we have put together a very healthy and resilient plan for Mercedes-Benz, it only works if the whole network works. And there is a constant information exchange between industry and the German authorities that will organize this.

And in fact, they are also planning for the month of September to introduce something like a marketplace where you can then trade your gas, your previous gas demand if you have been able to reduce towards other industry players that may not have as large reduction plans as we have. So the government is preparing for different scenarios here to make sure that the overall industrial system is robust for Germany.

I think we have to live with some level of uncertainty because we don't know exactly what's going to happen. But from what I can observe, every single company in Germany, but not only in Germany, has this very high on the agenda and is working on it. The fact that we have been able to put together a plan where we can reduce up to 50%, I think, is proof that a large industrial group as ours, if we can do it, other people can do things as well. So we cannot take the uncertainty out of the equation, but I believe everything is being done to make sure that we prepare ourselves for different scenarios.

With regard to top-end vehicles, yes, it is true that our plan is to sell 10% more top-end vehicles on an annual basis compared to last year. Full stop.

[Harald Wilhelm, executive]

And maybe, George, I mean, some frustrated demand definitely I mean on some semi-related supply constraints. I mean, look at the Q2 on G-Class. Look, I mean, on some of the AMG products, that's sitting there as frustrated demand. And definitely, I mean, this is what we expect to deliver in the second half. But then don't forget about, I mean, EQS SUV coming in the market, I mean, in the second half of the year, the SL coming to market. So great product line, which is going to fuel the growth in the second half of the year.

[Steffen Hoffmann, executive]

And we continue with Daniel Roeska from Bernstein. Daniel, are you with us? Okay. I cannot hear Daniel at the moment, so then the next lady in line would be Dorothee Cresswell from Exane.

[Hanna Dorothee Cresswell, analyst]

Dorothee Cresswell from Exane. The first one is around BEV profitability. Could you comment on the profitability gap between the EQE and the E-Class both relative to the EQS and the S-Class and perhaps also in absolute terms?

And then my second question is just around your BEV strategy in China. Can you remind us which BEV products you'll localize in China going forward? And then how far any of those products will be specifically tailored to local taste?

[Harald Wilhelm, executive]

Maybe Dorothee, I get started on the first one. Well, now another, I think, healthy quarter of EQS sales. We said that EQS margin, I mean, starts to be healthy. It's maybe not exactly on S-Class level. But sitting here in the middle of the year, I think it's not too far from it, which I think is good news. And more or less the first quarter of EQE, so let's be a bit prudent and careful here. But at the point, I think, we said that EQE margin, I mean, is at the level of E-Class margin. Maybe there's a good level of competition ongoing now between EQE and E-Class and the early ones are already running a bit ahead of the E-Class.

[Ola Kallenius, executive]

With regard to China production, we are in the process of preparing for production of the EQE sedan in China as well. Next year, we will also launch the EQE SUV in China. As we have mentioned in the previous event, in the midterm, we're also looking at the specific model for China based upon that architecture. And we already have today the EQC, EQA and EQB in production.

[Steffen Hoffmann, executive]

And with that, the next gentleman in line is Stephen Reitman from Societe General.

[Stephen Reitman, analyst]

I had a question about your BEVs. You're showing obviously some strong technical progress, particularly EQXX in terms of technologies. I'm just wondering how that's translating as well in terms of customer perceptions and your customer acquisition. Could you comment on how customers were buying the EQS, EQE portion that are new to Mercedes? Are you actually now taking customers potentially away from the leader in the EV space, who doesn't seem to be spending so much time on their higher-end model but has more volume strategy? So that's what I'm interested in.

[Ola Kallenius, executive]

The customer reception on this EQS and EQE have been tremendous, and we are looking forward to the EQS SUV as well.

In terms of what those cars deliver already in range efficiency, also technology, of course, some spectacular features like the Hyperscreen, we have received very, very, very good feedback. So I would say a good start.

The technologies from the EQXX will come in the -- some of those technologies will come in the MMA and MB.EA platforms. But we -- always, when we introduce new technology, we kind of look up and down. So when facelifts come up for the architecture on which the EQE and EQS is based, you can expect us to not sit on our hands there but also act accordingly. So we will keep the vehicles competitive and fresh, and make sure that the technology gains that we made that they proliferate across the portfolio.

With regard to conquest potential, it is absolutely true that the EQ customers is not 100% substitution. So yes, we are also gaining new customers through these vehicles.

[Steffen Hoffmann, executive]

And we continue with Tom Narayan from RBC.

[Gautam Narayan, analyst]

Tom Narayan, RBC. Actually, both of them are follow-ups to questions already asked. So on nat gas, a follow-up to George's question, just to understand, are you guys being -- are you guys confident or are just hopeful that nat gas issues, as it relates to the supply chain, won't be a big obstacle for you?

And then on battery chemistry, a follow-up to Patrick's question, some OEMs lately have really been pushing, it looks like, LFP chemistry, especially given shortfalls in nickel and cobalt supply in the coming years. How open are you to switching more aggressively to LFP chemistry? Could you switch to this easily? I suppose with what you've demonstrated with the EQXX is you could use nickel and cobalt chemistries and use less metals relative to range performance. But just love to hear your thoughts on LFP.

[Ola Kallenius, executive]

For gas, I would neither want to use the word confident nor hopeful because there is a level of uncertainty. We don't know exactly what's going to happen. So I think the word is resilience. We need to work on our resilience. We, as Mercedes-Benz, certainly have prepared ourselves, and we believe other companies are preparing themselves as well. And I think that's the only thing you can do in this case.

I also very positively have to see this European solidarity, even countries that are maybe not directly affected by that particular supply chain, that Europe comes together here and says, "We're going to solve this problem together," I think, it's a very, very, very good sign for Europe. There will be a level of uncertainty that we can't control but we will continue to work on our resilience.

Battery chemistry strategy. LFP, we believe, will experience in the coming years also a bit of a renaissance. There is interesting developments on the performance of the LFP technology. And as we have already stated, LFP is also on our technology map going forward. So we will have both NMC and LFP in the midterm.

[Steffen Hoffmann, executive]

Thank you, Ola, and we continue with Charles Coldicott from Redburn.

[Charles Coldicott, analyst]

I've got 2, please. Firstly, elsewhere in the industry, we've seen some carmakers already start to react to the slowing economic scenario by going further and faster to reducing costs, including even reducing headcount. Is that something you're looking at as well? And can you go further than the 20% fixed cost reduction?

And then my second question was just on currency. Obviously, given the move we've seen in the value of the euro, what are your expectations for the impact of currency in H2?

[Harald Wilhelm, executive]

Thanks, Charles. On cost reduction, I mean, we set out that ambitious target of a 20% net year-on-year reduction between 2019 and the middle of the decade. As you can see, I think we're doing good progress on that one. And at this juncture, I think, I mean, keeping that target in an environment which is driven by lots of inflation and inflation risk moving forward means just that you need to step up significantly, I mean, the effort to make it right.

So if you have an inflation rate at 7% to 8%, maybe it's not running over 4 or 5 years. But I mean, over some time, that is just an incremental level of challenge. So we're taking that one on board. We're not commenting specifically, I mean, on headcount reduction targets, but definitely in the area, I mean, of white collars. That means that when there is a need for, I mean, headcount reduction in support of these fixed cost reduction targets. But it's not the only thing. It basically reinforces and requires each and every function and area in the company to enhance, to digitize and to improve.

So that plan, I mean, remains unchanged in terms of its objective. But again, the built-in ambition is sitting at a higher level due to the inflationary trends.

On the FX, yes, I mean, given, the dollar environment and also the RMB and Turkish lira went a bit the other direction, but there is an upside, I mean, potential on the other side. We are already pretty well hedged for the full year 2022. So maybe there's a bit more opportunity sitting there for the outer years, 2023, and beyond as we would try to catch these opportunities in the markets.

[Steffen Hoffmann, executive]

Thank you, Harald. And the last question goes to Philippe Houchois from Jefferies.

[Philippe Houchois, analyst]

I just want to ask, I was intrigued by Harald's comments earlier about having a good net cash position is good for optionality. You volunteer that comment, and I'm just wondering what you have in mind.

[Harald Wilhelm, executive]

Well, I think it's not the first time that we've been talking about that in terms of focus on cash generation. And I think that's exactly the way we'll take it forward also, I mean, in the second half of the year. I think, however, I mean, current environment in terms of the macro uncertainties don't make it there, I think we can be more specific about it.

But definitely, I mean, we see cash generation ahead. We see no obstacle in terms of cash generation. I mean, also for the future, we basically see the strategy delivery being funded by the free cash flow. And that means without any incremental or further measure, I mean, the net cash position even by application of the current dividend policy would continue to grow and grow. And I'm sure you will come back, therefore, with more questions. I mean, what else could we consider? And that's what I meant by saying there is optionality.

[Philippe Houchois, analyst]

Well, if I can follow up on that is, what is your view about having control of your joint venture in China? One of your competitors has. And is that, you think, something that would be positive to your business case?

[Ola Kallenius, executive]

We have a very, very strong partnership in China that works quite well. So should anything change there, we will let you know.

[Steffen Hoffmann, executive]

And with that, ladies and gentlemen, thank you for your questions and for being with us today. Also, thank you very much to Ola and Harald for answering the questions. Now, as always, Investor Relations remains at your disposal to answer any further questions you might have. To all of you, have a great morning, great afternoon, great evening, and we look forward to talking to you soon. Thanks, and goodbye.