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Elringklinger AG
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Yes, hello, ladies and gentleman. Warm welcome to our conference call on the Q3 figures for 2018. Let me tell you the agenda that we have today, it is as follows, I will start with a quick overview, then my colleague, the -- our CFO Thomas Jessulat will then walk you through the financial figures of Q3. Afterwards, I will give you some strategic remarks and close with the outlook. And of course, at the end, as usual you will have the opportunity to ask questions. Well, let me start, for the third quarter we noticed the following headlines with respect to our business. After a strong first-half, we maintained our forward momentum, revenues reached EUR 406 million, in organic terms that is up by more than 5%. EBIT pre-PPA was as expected below prior year figures and reached EUR 23.8 million. EBIT margin pre-PPA stood at 5.9% in Q3, and 7% in the first 9 months. As part of our strategic alignment in our fuel cell business, we inclined to sharpen our focus and to concentrate certainly on the so-called PEM fuel cell in the future, as this is the key technology for mobile application that means in cars, trucks and buses. Following this rationale, we started our business centered around the so-called SOFC technology, which is also a fuel cell technology and was especially developed and done by our subsidiary, New Enerday. Closing of this transaction was on September 30, 2018. But it had only minor effects on the financial results in Q3. Overall, we are on track and confirm our guidance for the full year 2018. Nevertheless, there are numerous factors, internal as well as external, which are influencing the status quo of ElringKlinger. Let me elaborate some of those factors. 2018 is a challenging year, not only for ElringKlinger, but for the automotive sector as a whole. The market environment is characterized by a difficult framework. When it comes to internal factors especially 2 issues are currently heavily weighing on ElringKlinger. The high follow-on cost situation in NAFTA caused by a continuous high demand, and the cost optimization at our Swiss production site. We will discuss those issues later more in detail. Looking at the external factors, the automotive industry is under pressure from various perspectives. First, the ongoing discussion with regards to diesel and possible bans in several cities. Second, the introduction of WLTP, which led to shifting production volumes in Europe, especially in Germany. Third, the pending threat of international trade disputes, especially with the U.S. Fourth, the impact of U.S. tariffs on steel and aluminum, which are 2 very important materials for us. Fifth, the sharp increase of raw material prices. And last but not least, sixth, the risk of a market decline in China, which as you know is the major and biggest automotive market in the world.These factors affect the entire automotive industry as well as ElringKlinger of course also. And of course, we counter sphere where ever it is possible those effects. When it comes to raw material prices, we are minimizing risks by consistent policy with regard to supplier selection or by balanced structure of contractual terms. To avoid tariffs, we are aiming to buy from local suppliers or we officially apply for exclusions especially in the U.S.On Slide #4, let us have now look a on the market development in Q3. Overall, global car marketspace and production remained in pretty good shape. Although, the regions developed quite differently. Globally, production figures increased by 2.8% year-on-year. In China, we saw first signs of weakening that becomes more and more visible now. Trade conflicts and tariffs are starting to show an effect with regards to productions figures, Q3 was still up 11% in China. The European Union saw an overall decrease of 1% driven especially by Germany. In Germany, the introduction of the new norm WLTP has anticipatory effects in Q2, thus leaving Q3 with minus of 13%. U.K., and Italy also 2 very important markets in the European Union were also down. France and Spain, the 2 other big markets in the EU were positive in Q3. North America was up by 2% after a slight dip in Q2. The third quarter showed modest growth, but that on a very, very high level in the United States. Last but not least India and Brazil could continue their rebound in Q3, whereas Japan was still very much down.While those are my first general remarks to Q3 and to our industry and the markets. So let me now hand over to Mr. Jessulat, our CFO, my colleague on the board for the explanation of the quarterly figures. Mr. Jessulat.
Thank you, Dr. Wolf. Ladies and gentleman, a warm welcome also from my side. I would like to comment the financial results for the third quarter starting now on Slide #6. The order book situation is still very strong. Order intake increased to EUR 412 million, adjusted for currency effects that represents a growth of 12%. Thus the order backlog also expanded and rose to EUR 1.27 billion, a plus of 5% respectively 7% when adjusted for foreign exchange effect. Our continued growth pairs is reflected in our sales figure. Q3 sales came to EUR 406 million, after EUR 404 million in Q3, 2017. The deconsolidation of Hug diluted growth by minus 3% foreign exchange effect on sales by 1.8%. And currency effect once again had a strong impact on our figures. In Q3, those were mainly associated with a strong euro particularly against the Dutch lira, the Brazil real, and Mexican peso. All in all, we saw a strong organic growth of 5.3%. And in Slide #7, the earnings figures for the third quarter are being presented. EBITDA stood at EUR 48 million, EBIT pre-PPA reached EUR 23.8 million, and the EBIT margin pre-PPA was at 5.9%. EBIT margin rose despite the adverse influencing factors more or less in line with Q2, which was 6.1%. The main drivers for this development are still high raw material prices. Prices for steel and aluminum stabilized, but they remain on high levels. Prices for plastic granules increased even further. In Switzerland, the process of migration is on track as planned, but fixed cost optimization has to follow this process. In NAFTA, we still see a high demand, but relevant countermeasures are addressed and are effectively implemented. And let me give you on the next slide a more detailed update on the NAFTA situation. To address the capacity bottlenecks in NAFTA, resulting from a persistently high demand from our customers, we started several measures to cope with the higher volumes. Looking on the progress, we made those measures. We stated that the installation of additional production line, the adoption on optimization of the corresponding logistics progresses, their processes are in progress. We continuously hire new personnel, and only in the third quarter, we added more than 70 employees in our NAFTA plans. Those new employees are being introduced and trained for the new roles. The gradual adjustments of product, prices and the improvement of our fixed costs base is underway. To summarize, our optimization measures are taking effect, but we still have some way to go. We are still quite confident that these measures will result in a sizable improvement of our EBIT level, over the next quarters, but mainly essentially, in 2019. On the next slide, our global sales split is shown. It reflects strong growth, which we are currently experiencing in NAFTA. Sales share in NAFTA increased to 23% in Q3 from 20%. Sales growth in North America amounted assuming constant currencies to 16%, sorry, in Q3, at the same time the vehicle production in NAFTA increased by only 1.6%. With regards to our business divisions, the gaskets divisions were negatively impacted by foreign exchange, but in line with our expectations. Lightweighting/Elastomer further increased its sales share in Q3 to 27%. The production of door modules in Chongqing, China was prepared in Q3 and finally started. And SOP in Hungary continued to ramp-up. Shielding Technology valves like gaskets negatively impacted by foreign exchange, and E-Mobility increased revenues in Q3 by 40%. But on EBIT level breakeven has not been achieved yet. Let me now turn to Slide #11, showing the performance of the segments. Development of the OE business, we have already discussed the main issues above. The aftermarket sales in Q3 were dampened by the tense political situation in some markets, in particular in the Middle East, which includes also Turkey. As a result, sales slowed to EUR 38 million representing a decrease of 6.5%, compared to the previous year's quarter. The aftermarket segment initiated several strategic measures in the course of 2018. One, improving availability of materials; second, accelerating market penetration in China; and third, enforcing business in NAFTA. And we opened the first aftermarket warehouse in the U.S. at the end of the third quarter 2018 in Fremont, California. Due to those measures, EBIT margin in the aftermarket segment came down to 15.7% but still is on a high level. In regard to Engineered Plastics, the remaining strong demand from automotive and mechanical engineering sector led to a sales growth of 5% to EUR 30 million. EBIT margin got improved even further thanks to stringent cost measures and ongoing optimization measures, EBIT margin stood at 22% in the third quarter. And now we come to Slide #12. Net working capital went up by 3.7% to EUR 618 million. But the increase was less pronounced than organic sales growth with 5.3%. A total of EUR 21 million was attributable to inventories. And at the same time, receivables came down by EUR 10 million compared to end of June 2018. Our disciplined CapEx approach will continue, despite the increase in Q3 to EUR 54 million, and the CapEx ratio came down to 13.3% in Q3, and is after 9 month right now, at 9.6% within our targeted range between 9% and 10%. Operating free cash flow was as expected negative in Q3, and stood at minus EUR 47 million. Ladies and gentleman, over the last weeks, we had a couple of questions about our current debt situation. And therefore, let me give you some remarks on the slide -- on Slide #13. Our current net financial debt amounts to EUR 728 million. We are not happy about this level, and we aim to bring it down. Our target is a net debt-to-EBITDA ratio towards 2 or even below 2. But I would like to emphasize that this relation is more an earnings topic than a debt issue. And by improving earnings, the relation of net debt and EBITDA will also improve. Nevertheless, let's have a closer look at our debt structure. From our total debt, almost 3/4 are long-term liabilities with maturities of more than 1 year. The biggest bulk was EUR 465 million is due not before 2020. From our total debt, EUR 179 million are short term, and from the loans EUR 127 million will be due until the end of 2019. In addition, we currently have approximately EUR 192 million unused credit lines in the group. We have still no covenants on group level in place. And let me finally underline a capital increase is not on the agenda, as we have a well working debt structure. So now I would hand back to Dr. Wolf.
Okay. Mr. Jessulat, thank you very much for your explanations. Ladies and gentlemen, let me remind you of our ambition within the next decade. ElringKlinger started very early to develop components for both battery and fuel cell systems. In the meantime, we are also able to offer full electric drive units via our participation in the company of Hofer, as you might remember. This business, which is represented by our new business areas will be subject to strong demand and significant growth in the future. At the same time, we will still see growth in our traditional business divisions. Except for cylinder gaskets, which only represent 12% of our sales today, all business divisions will be needed in tomorrow's world mobility, with the core of their products. And we will see a transformation process of these products -- product groups as well. Thus, we target to increase our sales share with components for E-Mobility and structural lightweight to roundabout 25% coming from 4% today. This share with our functional components will decrease to roundabout 55%. The logical question that you might ask, of course, how will we get there? As of today, we have already on considerable number of new contracts in our new business areas. If you all know, our customers are very sensitive with those projects, and usually do not allow us to talk about any details of those projects. Nevertheless, I would like to give you some more color on the order situation in our new business areas. If you look on Slide #16, that shows the nominated volumes for the coming 5 years. As you can see, new orders will start contributing sales in 2019 on a low level and will increase their contribution in the years after. Especially, in the field of batteries, but also in fuel cell systems, we expect significant growth and not to forget the order in the so-called EDU business, the electric drivetrain unit that was developed by Hofer. You see our sales ambitions are underpinned with concrete contracts. Of course, those numbers will depend on how fast alternative drivetrains will succeed and market penetration will increase. For us, for ElringKlinger, we believe it is vital to be onboard and to prove our expertise as a successful supplier with focus on highly technological solutions. We address our portfolio to both establish as well as new OEMs, as it is important to be prepared for this tremendous transformation process that we see in our industry, in the automotive, and the supplier industry. What does this mean for our strategic alignment today? Well, we will drive the E-Mobility business to further growth. This means, we will utilize our know-how of the past years gained by R&D in the new business units, and by the expertise in the classical business in auto. First to realize potential by the strong technological position. Secondly to receive further new orders; and thirdly, to prepare and start sales productions. We will further optimize underlying our business structure in order to generate a positive cash flow. And this, of course, includes very much first, a focused CapEx approach; second, an alignment of group structure to strategy; and third, the optimization of our working capital. When focusing growth potential on the new business area, we will at the same time not miss the benefit from our strong market position in the classical business. As you all know, we have a profound and detailed know-how with regard to products and processes in the classical world, which we continuously use for progress in the new mobility world. We will concentrate on improving our processes to avoid additional cost in some regions. With regard to our financial key figures, we will optimize our working capital and continue the declined CapEx approach. By following this, we aim at an improvement of the cash flow situation, which we see as a key for our financial figures.Having said this, let me put it in a nutshell. We will manage the growth in the classical businesses for realizing the potential in the new technologies. Ladies and gentlemen, let's now walk about the more near-term future and the outlook for 2018. First of all on Slide #20, how do we expect the markets in 2018? After having seen some weakness in China already in Q3, I've talked about that already, we slightly reduced our expectations for global light vehicle production in 2018. We now expect to see global vehicle production increasing by 1% to 2%, before we had 2% to 3%. Let me have a look on Europe. In Germany, we will see -- still see impacts from the introduction of the WLTP to be continued in Q4, as therefore, most likely, we see decreasing volumes. This is -- this new testing system, real drive emission. The U.K. from our point of view will be down. On the other side, we see good growth in Spain and France, also 2 very important car markets in Europe. Overall, production should grow in Europe by 1%, before we expected 4%. NAFTA, backed on a rising truck market, SUV market and the already high production level, NAFTA will be more or less stable. And if we look in -- at Asia, for China, the signs of a weaker demand becomes more visible. I talked about that already before. After the government just announced tax cuts last week, we have seen how demand evolves in Q4. For now, we see slightly slower growth in Asia with 2%, before we expected 3%. The global competitive landscape as well as the macroeconomic environment remains intensive and challenging for the automotive and supplier industry.Amidst the ongoing debate surrounding diesel-powered vehicles together with the effect of tariffs and trade disputes, repercussions from the introduction of WLTP, and last but not least the weakness of the Chinese market, uncertainty within the sector as a whole has become more pronounced. The automotive industry will continue to be influenced by these factors in the coming months and quarters. With organic revenue growth standing at 7.4% on the first 9 month, and orders remaining very strong, Mr. Jessulat explained that, the group is confident that it can outpace market expansions by 2 to 4 percentage points on the basis of organic revenue growth. After the first 9 months, the group remains on track with regard to its earnings targets, which is to achieve an EBIT margin before purchase price allocation of around 7% in the annual period as a whole. Having considered the influencing factors outlined above together with anticipated operational improvements, the group remains confident that it can achieve the earning margins that was set -- that we have set ourselves as a target for 2018. As an early mover in the field of alternative drivetrain -- drive technologies, ElringKlinger has established an excellent vantage point from which to engage in the process of transition with the automotive industry. At the same time, the company has strong market position with regards to longstanding product -- products, provides a very solid foundation. Therefore, the group remains confident that it can continue to exceed the expansion rate of global car production in terms of organic revenue growth. Turning to earnings performance. As in the past, the group anticipates that it can gradually improve profitability calculated on the basis of its EBIT margin before PPA. Ladies and gentlemen, I highly appreciate your attention. Also Mr. Jessulat, of course, and we are now ready to take your questions. Please, go ahead.
[Operator Instructions] We have received the first question, it comes from Sascha Gommel of Crédit Suisse.
I actually have a couple of items I want to discuss. First of all, on your Q3 results, I -- when I go through the free cash flows or the cash flow statement, I find a couple of items where I have questions around the earnings quality. You reversed EUR 4.6 million provisions, can you confirm that this is related to raw material price assumptions? And why did you increase your capitalization rate so much, which had another EUR 3 million effect year-on-year? So if I would strip that out, your Q3 EBIT would actually be much lower more towards the EUR 15 million area, so then I wanted to know how you see that you actually get EUR 30 million in the fourth quarter in order to get to your guidance given that when I look at last year's Q4, your raw material level was significantly lower? Because at the moment, we're trending above 43% of sales at raw material, while it was a bit more than 40% last year, so -- in the fourth quarter. So that would be EUR 10 million, EUR 12 million headwind alone in the fourth quarter. So maybe you can shed a little bit more light around that topic? Second area I want to cover is your interest payments. The cash payments went up quite substantially in the third quarter. Can you explain why this is the case? And what we should think about the coming quarters? How does this is going to develop in the next quarters? And then my last topic would be on your strategic remarks. I really appreciate that you're pointing us again to very exciting top line potential. I think the market and also me personally, would be much more interested in how you get your margin back? And how you actually will get to a free cash flow level? Maybe you can shed also some light on that topic? And put more specific numbers and dates behind that? And then related, you've seen the -- we've seen the nominated volumes, can you give us a split of how much of that is traditional OEMs with new products versus startups?
Yes, let me start on the provision, so the EUR 4.6 million, you know the largest part of it is a change in the assessment for the contingent losses for products that we make. And this is a quarterly review that takes place. And this goes to the largest extend into this. When we talk about the CapEx rate, then you know, I indicated over the last couple of quarters that based on the increased activity here in regard to development in the new business fields, in particular for E-Mobility, the intensity in this regard and also the capitalization rate will go up. And I think we see capitalization here in the third quarter going up. And I would expect this trend to be continued. And on the third point, what I understood was, you know your question was around raw material prices towards fourth quarter? Did I understand that right?
Yes, that was correct. I think you started giving us the number like the percentage of sales that is related to raw materials. And when I go through the quarters, in this year, you're trending kind of above 43% in percent of sales. When I look back in Q4, '17, it was 40.1%. So even if I would assume a slight improvement, there is still a massive headwind in the fourth quarter from raw materials. And you had EUR 30 million EBIT in or EUR 30.7 million EBIT in the fourth quarter, and if I do the math, I get to at least EUR 10 million headwind from raw materials alone. So I was just trying to understand, where does significant improvement is coming from in order to reach the level to kind of achieve your guidance?
Okay, understood. You know essentially, there is -- when we look into the achieving of the guidance. There is a product mix. And I think also sort of quality of sales. Because what we have seen in the CapEx intensity now in this year that we have provided for a lot of new locations and for a lot of new tooling and equipment. And in Q4, and of course, this is cut off topics, but I would expect tooling sales with, in my opinion good margins, coming in, in Q4. I would see -- my expectation would be that from an optimization in the NAFTA area, that we see some improvement there. And I have several positive effects from the conclusion of contracts. So Q4, as we also could see, I think, it was 2 years ago, there is some risk in regards to that. But I've got also some startup-related efficiencies that will you know to some extent come into the P&L in Q4. So for me, it's a mixed picture. And the risk item very clearly is the execution in the NAFTA area. But I've got also some positive effects that I expect. But it's a mix of several factors essentially.The next question that you had cash payments what was that question about?
Interest cash payments? When I go to your cash flow statement...
That is related to first payment Chongqing in the cash flow, yes?
Okay. So that is more a sustainable level now where we are at Q3?
Yes, I think. But from a -- from the next point, strategic remark, the challenge, and I think this is very clear that the company now has the balances on the one side to go through the classic cycle with a very disciplined CapEx approach for the classic business. Ramp up in preparation for the new business. And also the optimization of the financing structure that we have. This is very challenging. Generally speaking, but this is something that we'll see in 2019 because we'll get more aggressive on that end.
Let me say something to your last question where you asked for the new business, the fuel cell and battery business. The split between the traditional OEs, and we don't call them start up as you did, we call them new OEs. The -- we worked with both groups together, but we cannot disclose the split of the project. But we work with both of them together.
I see, thank you. And regarding the trajectory of your margin and cash flow, maybe not today, but would you be willing in the foreseeable future to share a clearer picture? I understand that you don't want to go for a cap hike, but I still struggle to model positive free cash flow on a sustainable basis let alone any material deleveraging from an organic point of view?
Yes. The deleveraging that we'll intend is, I think, having as Dr. Wolf explained 3 main topics: CapEx, group structure alignment to strategy, optimization of working capital. Those are the 3 topics that we need to get aggressive on...
What we do already.
And this we will see in the course of 2019. And so far, we have been executing through the strong cycle. But we are now going to be limiting CapEx classic going forward. And this will show significantly in the statements. But again, in the past, you didn't see it, and I agree with that. But based on past figures, if you want to model it, it's very hard because there is no data points in regard to that based on the strong growth in the past. I agree to that. But I agree with that, that in the coming quarters that we need to get more detail on individual steps and on individual figures, okay?
I see. I see your point. But I think we have been discussing this topic for a couple of quarters now and it never came through. I understand it's not easy and you're probably doing a lot, it's just there is no impact and this quarter was actually one of the biggest cash burns you ever reported on a quarterly basis. So that's all.
We have the next question, it comes from Marc-René Tonn of Warburg Research.
Just a couple of questions from my side as well. Firstly, I think we also have touched on this issue in the past conference calls one or the other time, I think you reiterated your strategic targets for CapEx at 9% to 10%. I think your D&A ratio is currently at 6%, you mentioned that capitalization for R&D will also let's say be a bit up when compared to what it had been in the past, so we should assume the D&A cost is increasing in the future. What would be your view on how we should have think about the 6% D&A creep going forward that will be the first question? Second question is, when I look at your presentation and I recognize the figures you use are from October and you still have 11% increase in production in China, and I think both of the other observers in the market see production were down 7% for the third quarter, which is quite a discrepancy. Can you really ensure us that you do not have any inventory hanging around there, assuming that your market expectation is significantly different to what the other observers are seeing for the third quarter? That would be the second question. Third question would be aftermarket. We've seen some margin weakness in the third quarter, I think you mentioned that you have -- that you had some extra costs associated with ramping up in your warehouse in the NAFTA region, is it essentially just limited to one quarter? Or is it something which we should also see as a burden in the next few quarters?
Good. Let me get to your first question R&D 5% to 6%. We have seen in the past 4.7%, 4.8%. There has been hiring going on here in the new business spheres. We are comfortable with a 5% to 6% range. But it's more like on the -- not anymore in the 4-point something percentage. But in fact, it'll be in the 5% to 6% range. Also capitalization, as I mentioned before, it's going to be going up, D&A is going to be increasing. Step-by-step, I'd say, it's not a step function, as we look at this. When we look at inventory risk and we move out of the cycle then I see this as a big topic looking at the supply chain. We are closely monitoring that in terms of inventories that is not turning and for 2019 also on this end year we're going to be taking some aggressive steps in regard to the management of our supply chain. I hope that answers your question.
There is nothing unusual which you've seen with regard to China. I think -- and you said just quite a difference, I think you mentioned 11% increase in production or output, and that the other industry observers were saying, it was minus 7%. So I think -- but it's not the case that you have produced by yourselves that they're preparing for 11% market increase and it was down 7%, and we see now a negative impact in Q4 H1 next year?
No, I don't think that we will see a negative impact here. But I don't think.
Let me come to your aftermarket question. That is part of my business that I am responsible for. We have been very weak in the aftermarket business in China and in the U.S. So we are developing this market -- those markets right now because we have been very successful in the OE business, especially in the U.S., aftermarket is very much related to cylinder gaskets and special gaskets. And all the major, let's say projects at the 3 big car manufacturers over the last 12, 13 years. We got the OE business there, so that means that now the free aftermarket business, that normally ramps up 7, 8, 9 years after the engine went into serious production. So it's pretty clear that we'd be having a strong position now in the OE business with Ford, GM and Chrysler that we have to ramp up our U.S. business. And you have to do that, of course, locally. So we opened a warehouse in our site in Fremont in California, where we supply to new OEs and highly innovative car manufacturers. We added some space. And there, we have now our warehouse for U.S. American applications. We have always been very strong with European programs in the U.S. in the aftermarket with regard to BMW, Mercedes and Audi and Volkswagen. But now this is the start with U.S. American business. We have big wholesalers that buy our products now because we are OE suppliers for those products. So that, of course, costs a little bit money if you ramp up the aftermarket business. And the absolute essential issue in the aftermarket business is to be able to deliver products. It's different in the OE business. They are dependent on us. They have to use our products when they -- once they have decided to use those products in the OE production. But aftermarket dealers, they order products and either they get it within 24 hours. If they don't get it, they go to the competitors. That's why we have ramped up costs here in the aftermarket business. But this is very essential for us because we see a big success here in the U.S. also based on the discussions that we had with wholesalers and with big customers for the U.S. program. The aftermarket had an additional, let's say, weakness that influenced the results in Q3. That is that we had weakness in the Middle East. Middle East is a very important market for the aftermarket business. Let me point out some major points that led to this weakness. That is, first, the situation in Saudi Arabia. That is one of -- a very, very important market for us in the aftermarket business with a very good margin. And as you know, the oil price is very low. That means that the earnings that they get in Saudi Arabia have come down quite a bit. And that means that they just sometimes don't have the money to buy the product. And the second issue, also a very important market in the Middle East, is Turkey. And you all know the development of the foreign exchange rate of the Turkish lira. And we supply our aftermarket products worldwide to all the customers in Europe. They have to buy those products in Europe. That means one of the weaknesses in Middle East is also related to the weak Turkish lira in Turkey. Because now to buy those products in Europe -- euro, they have to pay much more lira, and that is for some of those aftermarket dealers not possible. So those are the 2 main effects. So if things change with regard to the oil price and the Turkish lira, I'm pretty sure that they are going to buy again from us in those quantities that we saw before. And of course, the ramp-up cost in the U.S., that is a onetime issue. We won't see that in the quarters to come.
The next question is from Henning Cosman of HSBC.
Maybe as a first area, I could come back to the more shorter-term picture. I understand you're expecting quite a few positive effects in the fourth quarter. But again, I'm not entirely sure how to build that bridge from depending on how we look at this reversal of provisions. You basically need a 25% to 50% increase compared to your underlying EBIT in the third quarter, in the fourth quarter. Can we just discuss that again, please? And maybe also with a view on the sustainability of that margin level? That's my first question.
Yes. Like I mentioned before here, we've got a base business. We've got also in some weaker markets strong demand for ElringKlinger products. That means successfully pretty strong sales. We are, generally speaking, coming out of a situation where we have been preparing with a lot of funds startup of production. We have high level of inventories and receivables for tools. And those assets are going to be rotating out as we do [ Pipex ]. Now it is -- I know many of those topics. I'm not so sure as to [ Pipex ] are going to be happening in Q4 or it's going to be after cutoff in Q1 '19. And also in regard to entries such as provisions, this is something that we do on a regular basis as an assessment, and so we do on 31st of December. We have some areas. And I clearly say that for example, in ElringKlinger Abschirmtechnik in Switzerland, we are on a good path. We are on a recovery path. And as you go along the recovery path, you realize some efficiencies and you have some increase in this regards. Now my biggest risk topic, margin-wise, aside from the other items that I mentioned, it's really execution in NAFTA is my biggest risk topic because, again, I see us on a good way in Switzerland right now, and NAFTA gives me short-term risks. And the only thing I can say here, that short-term visibility in terms of costs or extra costs that we may have, and that gives me uncertainty. Besides that, I see us in an execution way of new business to ramp up. But the business essentially, when I have to describe it, this a mix that I look at in Q4.
Okay. So maybe to get away from this short-term element, which I understand has a lot of moving parts and it's also quite difficult for us to understand from the outside. Maybe to go on to 2019, just to get a feeling for the more sustainable profitability level. I think the wording that you used in the past was that your first target would be to achieve 7% profitability in 2019, excluding the positive one-off effect from the Hug sale. In the meantime, consensus already stands at 7.5%. So maybe you can use that to put in context a little bit how you feel about profitability.
I cannot confirm that we mentioned that as a guidance for '19, not the case. What we discussed, and I fully accept that, that we have a very challenging situation. Given the effect from Hug sales, which is a one-off in '18, I have to not to consider something like that for '19. So far, we have not given the guidance. But that is very clear that from an earnings perspective, this puts 2019 into a very challenging year from a margin perspective. But as per today, this is -- I can confirm that, but I cannot give you -- really give you more information.
Okay. And maybe a third one before I get back in line. I think you mentioned earlier a structure group realignment or a group structure realignment, where I think, Dr. Wolf, you said, you're already working on that quite hard. I think, Mr. Jessulat, you also made comments in a press interview about a month ago. Is it fair to assume that you're looking to sell further business divisions and maybe also to alleviate the cash situation a little bit? Is that a fair assessment?
I think when we look at the group now, and when we look at the speed of evolution of E-Mobility, then it is very clear that at some point, some steps need to be taken in order to align group with the strategy that we have. What I do not want to do is to now, to give you really detailed information because that is right now premature. But it's clear that based on the -- in particular, the net debt-to-EBITDA situation that we have today, the challenges and the room that we have to have for new business, for E-Mobility business going forward, I think that would include those steps. But this is everything that I can say now in regard to that.
We have our next question. It comes from Christian Ludwig of Bankhaus Lampe.
Also a couple of them. First of all, I would like to get back to the cash flow topic. Could you give us an idea of what your goal is for the full year this year? What do you expect you can achieve in Q4? Or do you think you will have an unequivocal positive free cash flow in Q4? And basically as a follow-up on that, with your current debt situation, how probable is it that you're going to have to waive the dividend for 2018 next year? And the second question would be a little bit more on the new business outlook. You mentioned in your report that you're building a battery module assembly in Germany. Could you elaborate a little bit more when is this going to be ready? What kind of capacity does that incline? And what customer is behind that? And the last question would be, on the tax rate, you had a very high tax rate in Q3. What do you think is realistic for this year?
Okay. To your first question, cash flow Q4, I would expect a decrease in some working capital items and not so much consumption there as per December 31. And I would expect some activity still going on in regard to CapEx spending but on a lower level compared to Q3, yes. And I would expect the free cash flow in a better situation relative to Q3 in rough terms. In terms of the second question you asked, about the debt situation. Could you just...
The second question was the dividend, as I remember, Mr. Ludwig. To just tell you, as we do it every year, and we did all the years, the past years, once we have the final results for 2018, we in the Management Board discuss about the dividend. And once we have discussed about the dividend, we make a proposal to the Supervisory Board. And in the meeting of the supervisory board in March, it is decided. That's as it is every year, and this is not changed this year or next year or the years to come.
In regard to the tax rate, I would expect something that is above the nominal level. Nominal level, I think, is roughly speaking, 28%. In this order, I think, we'll not be there based on some companies that are loss-making relative to some companies that have profits and pay taxes. So I would expect the annual tax rate will, very roughly speaking, between the nominal and the year-to-date level that we see now.
And you had -- I think you had a third question, battery module production, with regard to the capacity. Of course, we have orders on hand for battery modules, and we have to install capacity. And we install capacity that is sufficient to fulfill the orders that will start end of 2019, beginning of 2020.
Okay. And could you give an idea what kind of volume we should expect then for 2020 from this plant?
To be honest, everything I tell you now would be a little bit crystal ball. You have to see that we have a tremendous change in our industry, and that there are a lot of new car manufacturers developing new cars, very interesting cars. They tell us numbers. Then, the numbers go up; the numbers go down. So everything I would tell you now, right now would be right or wrong. The important thing for us is that we have in almost all those cases, contracts where we have clear numbers, and if they don't achieve the numbers, they have to pay compensation. That is important for me.
The next question is from Christoph Laskawi of Deutsche Bank.
I'd like to go back to some concerns that other analysts raised.
Can you speak a little bit louder, please? We can hardly hear you.
Can you hear me better now?
Once again? Just...
Can you hear me better now?
Yes, now it's much better. Okay.
Okay, excellent. I'd like to come back to some concerns that have been raised before, and that's basically the profitability level. And the first question on that would be, you mentioned several impacts in Q4 that should bring you to the targeted margin level. My question is, is visibility really there? And in a deteriorating market, like in China currently or assuming that it comes in a bit weaker than expected, are your assumptions still valid? And then, as you referenced tooling sales, which certainly are positive for mix, but then again, the sustainability of the mix that we see in a specific quarter also potentially would spill over effects into Q1, that you mentioned, the sustainability is not really there, so to say. How should we think about the development of the profitability into the next year? Looking at the margins level -- margin level that you show right now, clearly, you have to work quite hard to get it up. What are the measures that you take, relying on an external factor, say on the OEMs accepting your price hikes or other parts? And how much is really internal and you can more or less guarantee is coming through? And then, looking at the debt level, which you have kindly elaborated on, and thinking about potential disposals, if you cannot really raise your margin by the end of next year, would it make you more or less a distressed seller for potential disposals? And then again, would that, do you think, limit your pricing potential on any of those disposals?
On the Q4 target level, okay, point taken in regard to sustainability. When we look into the external factors, and I would describe it maybe a little bit different. We have 5 to 6 locations set up in 2018, for ramp-up in late '18, '19 and also later. We have some locations with 2018 that are in the startup situation. And I would expect from, so to say, natural cost of growth that the startup losses that we have in those places in 2019 will be alleviated by an increase, a gradual increase in sales and contribution margin that comes through those startups, for one. This, I say, natural but this is sort of set up based on the CapEx spend and the [ Pipex ] that we are doing. On the internal side, we see 2 main topics. We see an important phase in 2019 in regard to improvement from a margin perspective and also from an operational in Switzerland. And I, again, see us here on a good track. And that will, in my opinion, by looking at the situation today, end up in a final settlement in the original location by the end of the year. But we'll see improvement there. So that will give us, by our own action, improvements. And initially, I always said it's a 10-10-10 approach or goal over 3 years. So far, based on several reasons, we have not come by the end of the year, probably till '20. It's going to be less, but we have seen some improvement. Now on the NAFTA execution topic, I see here what I -- the possibility in terms of what we see in Switzerland that by bringing the operation into a 5 or maybe 6-day operation, that we'll see special freights and some other items dropping down like in a digital way. Now right now, I say short-term visibility is not so good. Visibility is going to be getting better, in my opinion, in the first half 2019. So it's a question as to how quick we get those extra costs out that are significant. And we see that in the margin level that you all comment on. And those are in my opinion the main factors that are sort of built in and all influenceable by management and not based on any hopes that raw material prices may drop down or something, okay? And based on a group that has 1.7 billion or 1.8 billion sales, we would talk a potential somewhere between 1 percentage points and 3 percentage points, talking EBIT margin in terms of the order of magnitude here. So now it's a matter of how fast we can move that cost out of the group. And this is for me still a question on timing. So I won't look at that. I don't comment on distressed sales, to be honest with you, because this is an interpretation. This is maybe interpretation of some of the participants in the capital markets. But we have now, what we see as the capital intensity of the classic business plus the investment in the new business, we see that this reflects in a higher debt rate based on preparation for the future. And we are put in a distressed situation. I look at it in a different way, we have to take those costs and expenses in order to prepare for the future to generate, to be able to generate cash flow for the future with new projects and new products and align the group structure with the strategies that we have. So I don't see it that way, to be honest.
And one additional remark, just to make it very clear, also the question was there before. We are not thinking about disposing any business units or segment of this company, to make it very clear.
Okay. A follow-up just to make sure I understand it right. You said the internal measures that you can take could make up for 1 to 3 percentage points of margin. Is that correct?
Yes. All in all, 1 to 3 percentage points.
Yes. That's it.
And a follow-up on the new business that has been nominated and you have shown on the slides. At what point in time will you see that business being breakeven? Is there certain volume you need to reach, say in 1 to 2 years? Or as you said, your ability has not yet reached breakeven in Q3. Should we already think about '19, when the first volumes come in to be the profitable business?
Here we have to look at it into the different units of E-Mobility. We have, I think, different startup costs here. And we've got different levels of intensity. So I would have said it depends, but I think that very early gains on serial production that is ramping up with new infrastructure that has been set up, I wouldn't be too aggressive with it, and I would definitely not say before 2021 that we see something that is really where we can say clearly, okay, you know this is giving us some good margin. I wouldn't be too optimistic because '19 is essentially set up, '20 is some volumes and we all know that the ramp-up situation, we hope it's going to be good. But in a realistic way, margins are going to be coming a little bit later. So my opinion, not before 2021.
The next question is from Michael Punzet of DZ Bank.
I have 2 questions left. The first one is on your E-Mobility business. Could you please quantify the EBIT loss in Q3 or in the first 9 months? And the second question is once again related to the capitalization rate of your R&D business. The increase in Q3, is that only related to the change in the structure of your R&D business? Or is that also related to, let's say, to some changes in the methodology how to capitalize R&D?
In terms of capitalization rate, the structure of projects that the company does changes. While in the past, you talked about some application engineering or we talked about development of plastic modules, so we have sort of limited scope. Now we talk development of systems and the development of systems also associated with the base technology and base developments that have to be done and executed. This now changes, to your question, the structure of what projects are being capitalized.
And I come to your first question, the loss in the segment E-Mobility was EUR 1.1 million that you have in Q3 -- what, pardon?
Q3?
Q3, yes.
In Q3, okay.
EUR 1.1 million in Q3. But you have to see to manage all those projects that we have on hand, we had to increase the number of engineers quite tremendously to manage to finally bring those projects to a success.
Okay. Maybe one follow-up on the R&D question. So is it fair to assume that the depreciation of the capitalized R&D will not kick in before 2021, when E-Mobility, as a new business, will pick up?
Depending on the project. When you talk about a project or a technology that is being capitalized, is it part of project that is finalized? Then it's going to be kicking in earlier than that. If there is going to be longer-term development, then it is like you said. It's a mix.
The next question is from Akshat Kacker of JPMorgan.
Akshat, JPMorgan. My first 2 question are on NAFTA. Can you give us a broad idea if you can quantify the impact between the follow-on costs mainly between ramp-up cost and freight? And also, can you broadly explain which OEMs project the strong growth that you're expecting and linked with? The second question is on Swiss cost optimization. What was the number for the third quarter? And what are you targeting for 2018 and 2019? If you can get a number to that. Also on the capitalization ratio, should we expect a number in the range of 10% to 12% for the coming quarters?
To be honest, I didn't understand the first question. It was in regard to NAFTA? And you talked about follow-on costs?
Yes, to kind of get an idea between ramp-up costs and freight in the third quarter in NAFTA.
Freight is significantly higher relative to ramp-up costs.And I don't know if you remember, but in the past, I mentioned that the ramp-up cost of the companies in the group is significantly lower relative to the extra costs in regard to the optimization of output.
And to the OEMs, Ford and GM are our major customers in the U.S. We also supply to Chrysler. But Ford and GM are the major customers, and they both are producing on a very high level, higher than expected by everybody in our industry.
The second one, sorry, on Swiss costs?
Swiss costs, actually between, you said, '18 plus '19, should be double digit. It should be double digit.
Okay. And the capitalization ratio for the coming quarters?
Capitalization rate for the coming quarters, I'm having a little bit of hard time answering that because we are in a -- sort of in a ramp-up situation here, but I think it's 2-digit. Let me just give you a very rough number, okay, 10% to 20%.
Okay. I'm sorry, just the very last point.
But I would have to eventually -- I have to get back with you on the next calls to refine that 10% to 20% estimate from my side, okay?
Okay. And sorry, just the very last one. On the cash flow statement, there was a EUR 9 million outflow on other noncash expenses. Can you share some details around that, please?
Yes, there are several items in regard to that. There's adjustments for currency effect in working capital and gains from disposals essentially related to, technically speaking, some general increase related to Hug and New Enerday transactions.
Then we have a follow-up question of Sascha Gommel of Crédit Suisse.
I just wanted to clarify one point on your comments on CapEx, if my understanding is right. So we basically assume that your CapEx will trend between 9% and 10% going forward and that some of the new businesses which need more investments, that will be offset by lower spending on your, let's say, heritage old business. Is that a fair assumption?
We have not given CapEx guidance for '19 going forward.
Okay, I see. And then the second follow-up would be, you mentioned your headcount increases. Is there kind of a temporary increase in there? Or is it more of a sustainable increase? Because when I plot the numbers against your revenue development, your revenue per employee comes down literally every quarter, which kind of indicates falling productivity. So maybe you can also comment on that point.
It's not -- productivity is not falling. That's a wrong assumption. But if you see that in our new business units, fuel cells and battery technology, we hired roundabout 60 to 70 engineers -- new engineers to be able to work on the projects and bring those project that we have awarded by the customers to a success. And if we don't invest now in human resources, in people that are able to bring those projects to a success, we will not be successful in producing and delivering those products to the customers. The customers, they expect that you do your very best to help them to become #1 in those fields. And that is an investment in the future. That's an investment in people in the future, in the future business. And of course, we don't have revenues right now in those projects. Some have revenues. Sometimes we get some R&D costs, but that's negligible. We have no revenues and no earnings. So that is an investment into the future, in everybody that believes that we have a good technology, that we are well positioned in this technology, and we are. We do fuel cells since 20 years, we do batteries since 14 years. We are well positioned. We have products on hand that we can supply in serious production up from the end of 2019. But those projects have to be worked on, and you need those people. And that does not mean that the productivity becomes worst in our traditional business units. It's still very good there. But the cost is up, personnel cost especially is up in the new business units to fulfill all the requirements that we have here.
No, I get that point. But the change from end of '17 to 9 months is 620 people. So I was just wondering, if there is maybe some stuff in there that you temporally need to solve the bottlenecks in the U.S. or so. But that doesn't seems to be the case.
Yes, of course, there are some people in there. Yes, of course, but also you have to see that we increased sales and that we ramped up our new business in the U.S. and a new factory in the U.S. We ramped our business in Hungary. We, of course, need people there that do the work, also in the production that produce the products. That's pretty clear.
Yes, okay. But it speaks that you're somehow more personnel-intensive because the number of people goes up more than your revenue. But that's explained by the new business.
That's related to the new business. I just can say it again. I think it's pretty clear to understand. If you have new business units, with fuel cells and battery technology, and you right now don't achieve revenues there because you have projects that start to go into serious production that starts end of '19, and in 2020. But you have the people onboard already today. It's pretty clear. That's a clear effect. That means once those projects ramp up and those new business units are highly autotomized, the production process is highly autotomized, once those projects ramp up, of course, we don't see additional people that we have to hire. Some of them may be in the production. But then, you see the effect of revenues go up quite a bit but the personnel cost goes down. This is an investment in the future. I just can say it once and once again.
We have our next question. It comes from Tim Schuldt of equinet Bank.
Yes. Actually, I have 2 questions. First one is a bit housekeeping. But in your balance sheet, there is one point on the asset side, which is called current contract assets. I haven't seen that one before. It hasn't shown end of last year but also not end of last September. So maybe if you can explain that. And then secondly, maybe a bit provocative, but I remember that after the financial crisis, you, Dr. Wolf, has stated several times that you're benefiting from your financial strengths in terms of winning business because the OEMs were awarding business a lot easier now to companies with a strong balance sheet. Now if I look at your balance sheet right now, you have a net debt-to-EBITDA ratio, trailing 12 months adjusted for the sale of the business, that's at 4x, and that's not even including the pension provisions. The question is, are you seeing any reluctance from your customer's side already that they are more reluctant than in the past to give you business?
Let me start with your last question. To be honest, sometimes, I would be happy if the customers would be a little bit more reluctant to give us business. That is something that we have -- now we started already to tell the customers that with regard to the strong growth that we had in the past and with all those investment that are necessary to finance this or to highly manage this growth with new factories and new machines, that we are not willing to accept business where we have those high investments that we have to do upfront. So I don't see any movement in the market that the customer does not want to give us business anymore. And you have to see that this will become probably even more intensive in the future because our few competitors that in our traditional business units, we have very few competitors. So if you look at the gasket business, that's basically 1.5. I counted them all only as 0.5 because they are not that much in the market anymore. So I see that this will become even stronger because the market is really tight. But that also gives us, of course, the possibility now to ask for higher prices and to achieve higher margins also in those traditional business units and with this development in the future.
Okay, in regard to question one. You know this is a rather technical item that comes from the introduction of IFRS 15, the cost for fulfilling contracts. So this is a minor amount, again, related to implementation of IFRS 15.
As there are no further questions, I would hand back to you.
Okay. So there are no further questions. Thank you very much for listening to us, and also thank you for your questions. We have been told that on some lines there was no tone in the beginning of this conference. Nevertheless, we are not responsible [Audio Gap] and, of course, we will contact our provider and we'll upload the replay file as soon as possible so that if you missed something, you can listen to it. So once again, thank you for joining us. Looking forward to talking to you on the next conference call. Thank you very much. Bye-bye.