ELECTROLUX AB

ELUX B
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Transcript : AB Electrolux - Special Call

12/09/2022 | 10:00

Presentation Operator Message
Operator (Operator)

Good day, and thank you for standing by. Welcome to Electrolux conference call [Operator Instructions]

I would now like to hand the conference over to our [Technical difficulty] speaker today, Jonas Samuelson, President and CEO of Electrolux. Please go ahead.

Presenter Speech
Jonas Samuelson (Executives)

Thank you. Good morning, and welcome to this update on this morning's press release about our upcoming cost reduction program and management changes. With me here today is Sophie Arnius, our Head of Investor Relations. I would also like to mention that this session is recorded and will be available on our website as an on-demand version. I will first do a short summary and then open up for questions.

So this morning, we announced that we're initiating a cost reduction program on the back of weaker-than-expected market demand, continued supply chain inefficiency mainly in North America and sequentially weaker earnings during the third quarter. What we have seen so far in the third quarter is that market demand for core appliances in Europe and the U.S. have decreased at a significantly accelerated pace compared with the second quarter. We estimate that the year-over-year demand drop is as much as twice of what we saw in the second quarter. This is driven by the impact of high inflation on consumer durables purchases and low consumer confidence.

As we said in our Q2 report, we expect consumer spending to further deteriorate, but it was uncertain to what extent. Lately, we have seen consumer confidence in both North America and EU hit very low levels. In Europe, even lower than during the pandemic. Higher retailer inventory levels have further amplified the impact of a slowdown in consumer demand.

The weak market environment in combination with supply chain imbalances is expected to result in third quarter group earnings to decline significantly compared to the second quarter, also excluding the onetime costs to exit the Russian market. This has been driven mainly by Europe and North America. Looking specifically at our North American business area, we expect an operating loss in the third quarter exceeding the loss in the second quarter.

Furthermore, market demand for 2023 is expected to further deteriorate, i.e., year-over-year be negative in both Europe and North America. Against this background, the Board has this morning decided to initiate a group-wide cost reduction program, addressing both variable and structural costs as well as a turnaround program in North America. These programs start immediately and are expected to result in a material positive earnings contribution from both cost efficiency and investments in innovation and marketing in 2023. Let me start by giving you some details on actions related to variable costs. As you may be aware, our earnings have during the last year have been significantly impacted by supply chain constraints. We will, therefore, give special attention to eliminating cost inefficiencies in our supply chain and production caused by the protracted supply instability, which in particular has impacted our North American operations.

This means that we're now adapting sales and production plans -- can be supplied in a stable manner in order to have air freight, out of contract logistics and spot by costs coming back to prepandemic levels. These actions will also significantly improve production efficiency through less idle time in production and user over time, et cetera. When it comes to the structural cost reductions, we focused on 4 areas. Firstly, to leverage the organizational changes, which took effect July 1 this year and earlier in 2019. These changes mean that we have created stronger global organizations for operations, sales, admin, R&D and IT. Initially, the focus was to create speed and scale, and now the next step is to achieve cost efficiencies.

Secondly, to optimize the R&D portfolio. This means leveraging recent global investment programs in R&D and prioritize the highest ROI opportunities in order to lower cost and CapEx. When prioritizing, we are looking at a number of KPIs, for example, pay off in terms of year and R&D productivity. Thirdly, to further optimize marketing. This includes tactical marketing expenses, which will be adjusted to current market environment. Brand building expenses will be prioritized on a global level instead of previously in each business area. We will also benefit from creating more centralized content.

Finally, we focus on improving productivity in operations, not just from a variable cost perspective but also from a structural cost perspective. Regarding business area in North America, I'm obviously very disappointed with our performance. The production transformation with 2 new facilities and several new product platforms in combination with the particularly challenging supply chain conditions in the region, will require additional measures to return to stability and profitability. We remain highly confident in the consumer appeal of the new product ranges and the main focus going forward will be on cost competitiveness in the new production facilities.

The turnaround program will therefore be initiated. In addition to the measures mentioned above, key areas for this program will be reviewing the product portfolio in view of the current market demand and significantly improve the cost efficiencies in the 2 new facilities Anderson and Springfield by adapting sales and production plans to what can be supplied in a stable manner and to rightsize the workforce.

The turnaround program will be conducted under the leadership of Ricardo Cons who has been appointed new head of business area in North America. Ricardo has led business area Latin America since 2017 and has shown that he is capable of navigating in a dynamic environment and improving margins. Business area Latin America went from an EBIT margin of 2.6% in 2017 to 6.7% in 2021. He has successfully led the reengineering program in the region by taking the investment in our Curitiba facility to its completion and is now underway with the [ San ] Carlos investment, which has gone according to plan. Before joining Electrolux, Ricardo was Managing Director of Franke Brasil during a 5-year period. We also had various management positions at Electrolux in Brazil between 1997 and 2011, including President of Small Appliances in Latin America.

So to conclude, the cost programs now initiated are expected to result in a material positive earnings contribution from both cost efficiency and investment and innovation and marketing in 2023. We will, in the third quarter interim report on October 28, come back with more information on cost reduction targets for '23 as well as a potentially material restructuring cost.

And finally, as you're probably aware, the share buyback program that we initiated on May 2, 2022, was completed on September 2. And given the current market environment, the Board does not intend to initiate additional share buybacks before the AGM of 2023. However, the Board's intention is to continue with the share buybacks over time. And with that, let's open up for questions.

I'd like to emphasize that we will limit the discussion in this Q&A session to clarifications about the announcements this morning. [ Savi ]?

Question and Answer Operator Message
Operator (Operator)

[Operator Instructions] And the first question comes from the line of James Moore from Redburn.

Question
James Moore (Analysts)

I have a number of questions. I'll start with one and get back in the queue. But could you possibly scale the total new savings and provide some timing on when you'd expect them to have fully landed in the P&L. Really, that's my question. But I'm trying to understand the potential path of North American margin recovery. I mean if North America is roughly nil this year, do you still believe you can get back to 6% and in what time line?

Answer
Jonas Samuelson (Executives)

Yes. So this program, obviously now starts immediately. We have not had the opportunity yet to go through it in detail and size it, of course, because we had to disclose the first -- I'll get the Board approval and then disclose to the market. Now we start with the work of detailing the specific actions and consequences of those. So we expect to come back with that at the time of the Q3 earnings release, which is October 28. So I will refrain from giving specific guidance on that because, frankly, we don't have enough detail on that yet. When it comes to North America, we are -- we remain highly confident in our ability to get to our 6% earnings target. And as far as that contribution from North America is that target is concerned.

As I mentioned, we're very confident that the new products have the right level of consumer appeal. The fundamental cost structure of the products, if you look at material costs and so on is competitive. However, we have been very uncompetitive so far when it comes to supply chain and production efficiency perspective. And this is because of the extreme instability that we have had in the supply in the North American market, which means that we are -- we have over staff, we have overcosted the setup to deliver the maximum amount of volume that we can.

So that has resulted in very significantly higher cost than what the run rate should be in order to ramp up the product. Now we -- with weaker market demand and the line of sight to more stable supply, our emphasis now is to really get that cost productivity back.

So we know how to do that. It's hard work. We think it can be done in a fairly management timeframe -- manageable time frame. So that's why we say that we expect material cost benefits to have to occur already in 2023. And the initiatives per se are already kicked off. It's just the quantification that it will take another month or so to nail.

Question and Answer Operator Message
Operator (Operator)

[Operator Instructions] The next question comes from the line of Andre Kukhnin from Credit Suisse.

Question
Andre Kukhnin (Analysts)

Very clear that you're not going to size the entire program this time and completely understandable. But just to kind of get idea of kind of scope, could you remind us on the things like investment in marketing that you continue to ramp up over the 2 years, what is the size of the kind of buffer of that kind of tactical adjustment opportunity? Not telling us what exactly you will do in terms of that ramp up over the last couple of years that you all you will adjust according to demand.

Answer
Jonas Samuelson (Executives)

Exactly. No, that's -- both when it comes to marketing and when it comes to innovation, we have ramped up -- obviously, we pulled back heavily in the depth of the COVID pandemic. But since then, we've been ramping up quite significantly. So there is ample space to reduce that spend. We are, of course, trying to optimize to your point, to demand and to the launches that we have, but we will take material action both when it comes to sales driving to brand building, a little bit less to launch support because that -- we still have important launches that we're executing.

And also when it comes to our R&D prioritization, obviously, we spent we very significantly increased our R&D spend last several years in order to drive these new product platform and product innovations that we have launched. But a lot of that is done. So we have an opportunity that was not our plan, frankly, to reduce spend there. We're more focused on driving further increased speed of innovation. In this demand environment, we have to, of course, adjust to what we see and there is opportunity to reduce that in a material way. Those 2 will be significant. They will not be the biggest drivers of construction. The biggest drivers will be manufacturing efficiency and supply chain efficiency. That's where we've seen really dramatic excess costs over the past couple of years.

Question
Andre Kukhnin (Analysts)

Right. And if I were to try to size those excess costs in totality, with the logic of taking kind of your first half or first 9 months performance of this year in Europe and U.S. and comparing that to the first 9 months of 2021, it would be fair to assume that you were largely offsetting raw materials there and we take out some of that excess marketing, but the rest is account -- that can be accounted for by those kind of excess manufacturing costs in totality with supply chain challenges and air freight and all that stuff.

Answer
Jonas Samuelson (Executives)

Yes, except for there's also sort of regular ongoing inflation that's in there. That will be, of course -- I mean that's just cost that would be hard to eliminate. But you're thinking the right way about it, but you have to also take into account that there is underlying cost inflation that seems like it's here to stay.

Question
Andre Kukhnin (Analysts)

Got it. And just final one, if I may. On pricing, now that we are starting to see clearly a negative volume environment and obviously not even for the first quarter, now several quarters in Europe and that significant deceleration that you cite, how are you seeing pricing developing in this environment?

Answer
Jonas Samuelson (Executives)

So our list price increases are sticking. As we've guided for before, we expect more of a normalization of the promotional, let's say, calendar with Black Friday promotions or Labor Day promotions and so on. And we're seeing that mainly in North America, also in Latin America and a bit more also in Europe. That was already planned for. So we don't see that as accelerating more than what we had already seen or planned for.

Question and Answer Operator Message
Operator (Operator)

[Operator Instructions] And the next question comes from the line of Olof Cederholm from ABG Sundal Collier.

Question
Olof Cederholm (Analysts)

It's Olof with ABG. Just a question on demand. It's falling off quickly now. And of course, the comparisons are still quite high. But thinking about it, you're talking about a negative development into 2023. I can see that. But given you have so much replacement in your sales, how do you think these dynamics will play out over the coming 3 to 6 quarters?

Answer
Jonas Samuelson (Executives)

Yes. No, I think that's a very good point that generally speaking, well over 50% of our sales are what we call forced replacement, meaning that an appliance is broken beyond repair and has to be replaced. And then we also know that unless circumstances are extreme, people actually do that. And that's upwards of 60% of our demand in mature markets.

Then we have planned replacement, and we have new construction. We do expect to see and we are seeing a slowdown in new construction. And we're also seeing people putting off planned replacements. So -- or refurbishments. And I think that for as long as we see consumer confidence at these very low levels, in combination with a very high general inflation and particularly in Europe [ here ] energy prices.

I think people will hold on to their wallets quite hard. And in Q2, we saw a market decline in Europe of around 10% in the U.S. around 6%. We're seeing so far in the quarter here, that pays almost doubled. So difficult to get a precise gauge, but certainly high teens in Europe and double digits in North America. Now that is sell-in. -- we do not yet have sell-out data, and we know that retailer inventories are definitely high for this level of demand.

So retailers are adjusting their inventories down as part of that decline. So where that levels out is hard to predict, especially in Europe, given the uncertainty around energy prices this winter and in North America around where interest rates will settle out. And that's why we're not giving specific guidance because, frankly, it's too uncertain. And -- but we do see enough headwinds that we think is going to be a negative for 2023, both in Europe and North America.

Question
Olof Cederholm (Analysts)

Okay. Then I was just wondering what your thoughts are right now on raw material costs where we're seeing steel prices continuing lower since you reported. Do you have any updated views on those trends going into Q4 and 2023?

Answer
Jonas Samuelson (Executives)

Yes. I think obviously, we'll come back with specific guidance on that in Q4 because the volatility is still very, very high. To your point, cold rolled, steel prices and also other base metals have come down since the peak that we saw the spring. Of course, we had locked in prices late last fall, and we're not exposed to those extreme peaks with some exceptions. But having said that, the current decline in prices for metals is, of course, very positive for us. Now that the concern that we have and the volatility that we see is, of course, related to, again, energy prices in Europe, which impacts cost levels there, so for our suppliers. So to give a prediction right now where the market will settle out is not easy, and we refrain from doing that. But of course, yes, positive development so far.

Question and Answer Operator Message
Operator (Operator)

[Operator Instructions] And the next question comes from the line of Johan Eliason from Kepler Cheuvreux.

Question
Johan Eliason (Analysts)

This is Johan at Kepler Cheuvreux. I hope you can hear me through the dog barking. I remember you arrived as a new CFO to Electrolux back in 2008, and you had to issue a similar profit warning, I believe it was in December 2008. Can you sort of highlight the main differences from the situation back then and today? And any lessons learned from going through that period. One thing I remember that you eventually decided to do was canceled the dividend for 2008. Is there something that could be repeated?

Answer
Jonas Samuelson (Executives)

So no, I don't think we will cancel the dividend. I think that was fairly extreme situation in terms of the capital -- financial markets and funding back then, which we don't see. That's one of the differences that we don't see right now. So from a financing perspective, we don't have those concerns and certainly not at this point. There are a lot of similarities, and that is that we saw this fairly sudden impact on consumer demand from being very bullish to being the confidence dropping very rapidly. That's what we saw back in, I guess, October 2008 with the Lehman crash. And I'd say that this energy spot price spike in Europe and a very high pace of interest rate increases in the U.S., both have a sort of a similar impact on consumer purchasing positions and that they're saying -- they're holding back and they're waiting to see what's happening. And that has a fairly big and quick impact. So I think that's -- there are many similarities with that.

We also, back then, had a situation where maybe less general inflation, but certainly very high input cost inflation for us for an extended period of time before that pullback. And that's actually quite similar also to what we're seeing right now. And what happened back then, you probably recall is that already, let's say, by mid-2009, we saw a very, very sharp drop in input costs. which then had a favorable impact on our results. Will that happen again? I have no idea. Certainly, that's not the indication. We talked about steel that's come down, but other things like oil and, of course, general inflation is at this point, remaining very high. So we'll see how that develops.

Question and Answer Operator Message
Operator (Operator)

Jonas, please be advised our participant's line has been dropped.

Answer
Jonas Samuelson (Executives)

Nobody can hear us?

Question and Answer Operator Message
Operator (Operator)

So everybody else can hear. So I think Johan had dropped. So -- but you could hear your answer.

[Operator Instructions] And the next question comes from the line of Will Turner from Goldman Sachs.

Question
William Turner (Analysts)

So I mean, I guess, the slowdown in market demand won't come as too much of a surprise to most of us. But one thing that I feel still a little bit surprising is the U.S. has been markedly more weaker for Electrolux relative to peers compared to the other 3 regions. And I was wondering, could you just go into more detail on what is actually required to improve the manufacturing and supply chain efficiency of this business? And is there anything a bit more structural in that business area, given maybe it's the kind of like market segment it pays in and that its market share relative to the other regions. Because, yes, when we look back to the last 5 years, this has been really the one I think that has probably underperformed especially given how strong those markets have been -- the market has been over the time.

Answer
Jonas Samuelson (Executives)

Yes. I mean, I'd say that's a fair assessment. And I think we -- if you go back in time, we had a situation where we had underinvested significantly in our product and our manufacturing footprint for an extended period of time. And back in 2018, we then decided to launch a significant investment program in North America, both from a product innovation perspective and product architecture as well as manufacturing footprint. Now the challenge is twofold there. One is that because we had an extended period where we had not invested, we were in a situation where the step-up needed was very high, both from a capability perspective, automation, digitalization, product architecture and so on. So that was a big challenge to start with.

And then right when we were ready to start to ramp up those -- the new Anderson facility in that case, but also some new products in other facilities COVID hit. And initially, that meant that we were not able to provide the level of support neither from the group, let's say, expertise areas, more from suppliers of equipment that usually came from overseas. That meant that we were very inefficient in wrapping up these new products.

And on top of that, came down the supply chain disruptions and supply disruptions that hit North America particularly hard, also because of overseas content port congestion trucking issues and so on. So there's been a, let's say, compounding series of challenges in terms of ramping up and getting the efficiency in these new production facilities. And that has compounded to a point where we're right now running the new facilities very, very inefficiently, to be honest.

So we need to take a step back and redouble our efforts to improve the productivity. So far, the focus has been I would say, almost exclusively on getting the output up at any cost, more or less, given the supply constraints and volatility. And now we have to flip into much more of a cost productivity perspective, both in the supply chain side and in our own manufacturing. That requires a different approach. It requires more discipline, frankly, more stronger processes, stronger process adherence.

And here, we will provide a lot of support to North America, including with new leadership. So that's the kind of the tough news, if you will, that we need to really change there.

The good news is that the new products are very, very good. The quality is good. The consumer star ratings of the new products are very, very high. It's a real step change compared to the products that we're replacing. The material cost and the product architecture designs are competitive. We have revalidated that and are confident that they are. So the new product architecture, new modular architectures per se are cost competitive. The way we assemble them and the way we supply them is extremely inefficient right now, and that's what we need to [ with us ].

Question
William Turner (Analysts)

Okay. Yes. That makes sense. I guess you'll have the most recent challenges despite they kind of will unwind on their own and now it's kind of resizing the business so that you've got a little bit more capacity.

Answer
Jonas Samuelson (Executives)

Yes, exactly. So it's stability. That's what we talk about stability and focus and leverage what we have and get that productivity up that's the focus, and that requires just a different approach than what we've had.

Question and Answer Operator Message
Operator (Operator)

[Operator Instructions] And the next question comes from the line of Akash Gupta from JPMorgan.

Question
Akash Gupta (Analysts)

My first one is on mix and market share, particularly in Europe. So in the last few weeks, we are getting a lot of headlines that consumers are trading down. And on the back of it, I wanted to ask if you see any risk to market share from weaker mix that consumer might be trading from mid-market or high end to more like low-end products. So maybe if you can say something that could there be any additional risk on top of market decline from mix and market share?

Answer
Jonas Samuelson (Executives)

No, I definitely -- I think there is risk to mix, certainly market mix. We do see trading down in Europe, less so in North America. There, we have more of a situation where, let's say, either a consumer buys or not as they trade down necessarily. So it's a slightly different type of dynamic whereas in Europe, we see trading down. In Europe, I'm not concerned about market share. We have a product offering that covers most of the price points in the market. And we have been struggling with supply heavily for an extended period of time, more so than our Asian competitors. So if anything, our ambition is to recover market share as we go forward in Europe and as well as in the North America.

Question
Akash Gupta (Analysts)

And a quick follow-up on covenants. Are there any covenants that we need to be aware of?

Answer
Jonas Samuelson (Executives)

No.

Question and Answer Operator Message
Operator (Operator)

[Operator Instructions] And the last question comes from the line of Uma Samlin from Bank of America.

Question
Uma Samlin (Analysts)

So I guess my first question is on North America. So I guess the cost saving plans is coming right at the point when you're ramping up the factories and launching new products and to potentially improve the market share in North America, which you have lost quite significantly in the past few years. So how do you plan to balance the launching a new product and to potentially improve the market share in North America, which you have lost quite significantly in the past few years. So how do you plan to balance the rightsizing and the cost reduction of the North America operations, especially in terms of production and [ potential also marketing ] and [ you're gaining ] the market share?

Answer
Jonas Samuelson (Executives)

No. I mean this is the exact trade-off that we've been challenged with for the last 9 months or more. And I would say that so far, we've addressed that mainly by producing output more or less, let's say, at any cost, right? So we've been spending a lot of money on express logistics. We have been planning production that we have not been able to execute because of lack of specific components and so on. And that has really driven a lot of costs. So we really have no choice but to take a step back now and stabilize. And that means more -- let's say, more planned production in a stable way based on the supply that we have visibility on. And, of course, reducing costs in conjunction with that significantly and then rebuild from there.

We have tried the other way in anticipation of better supply for a period of time. Again, the cost penalties of doing it that way have been too high. So we need to get to stability. We need to get to predictability and then we can grow from there on. That's the plan.

Question
Uma Samlin (Analysts)

And I guess another one from me is about your European cost reduction, can you talk a little bit more about that? Because you just mentioned that in Q3, you're expecting somewhere around teens market decline. Do you also -- but then your cost reduction seems to not focus on the U.S. So just wondering how do you think about the fixed and variable cost reduction in Europe? And are you optimizing your manufacturing footprint, especially Eastern Europe, given the high energy costs and the potential cost increases there?

Answer
Jonas Samuelson (Executives)

Right. So in Europe, it's a little bit more straightforward. There we have, I would say, a well-running operation. We have great products. We have good distribution and all of that. It's just the demand is lower to your point, and hence, we have to reduce our cost footprint. So we're doing that aggressively here. But it's more of a -- it makes more straightforward, just cost reductions. We will look at, of course, the production allocation, given energy cost [ into costs ], all those things. And that's the work we're doing now to figure out exactly where to drive our cost and efficiencies. But as mentioned in the beginning here, we're talking a lot about really leveraging the new organization setup we have with more scale and leverage, more prioritization globally. And that's, of course, benefiting our biggest business areas, both Europe and North America. So we'll do both sort of more tactical cost reductions and these structural benefits from the new organization setup impacting [ Europe ].

Question
Uma Samlin (Analysts)

And I guess my last question, how long do you think this will take you to sort of take to see an impact in terms of earnings? Do you exactly see that at the beginning of 2023? Or what's the sort of time line you were thinking about?

Answer
Jonas Samuelson (Executives)

Well, some of the more sort of short-term actions like hiring freeze that we've taken, like reducing discretionary spending and so on has immediate impact. And we're doing that right now. So that will have an impact already towards the end of Q3 and in Q4. When it comes to the more structural changes, that, of course, takes a little bit more time because we want to do it right. We want to prioritize the right things. So that will mainly be in 2023.

Question and Answer Operator Message
Operator (Operator)

There are no further questions. And I would like to hand the call back over to our speakers to Jonas Samuelson for closing remarks.

Answer
Jonas Samuelson (Executives)

Thank you, [ Nadia ]. So the cost programs that we have now initiated are, as I've said, expected to result in a material positive earnings contribution, both from cost efficiency and from reductions in investments in innovation and marketing in 2023. And just to confirm, we will come back in the third quarter interim report on the 28th October, with more information on the specific cost reduction targets for '23 as well as an estimate of potential and potentially material restructuring costs. With that, I look forward to talking to you again on October 28, and I wish you a good day. Thank you.

Question and Answer Operator Message
Operator (Operator)

That's concludes our conference today. Thank you for participating. You may now disconnect.

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