GEA Group Aktiengesellschaft (OTCPK:GEAGF) Q3 2020 Results Conference Call November 5, 2020 8:00 AM ET
Oliver Luckenbach – Investor Relations
Stefan Klebert – Chief Executive Officer
Marcus Ketter – Chief Financial Officer
Conference Call Participants
Max Yates – Credit Suisse
Akash Gupta – JPMorgan
Sebastian Growe – Commerzbank
Sven Weier – UBS
Felicitas Bismarck – Deutsche Bank
Denise Molina – Morningstar
Lucie Carrier – Morgan Stanley
Daniel Gleim – MainFirst
Lars Brorson – Barclays
Hello. Thank you very much. Good afternoon, ladies and gentlemen, and thank you for joining us today for our Third Quarter 2020 Earnings Conference Call. With me on the call today are Stefan Klebert, our CEO; and Marcus Ketter, our CFO. Stefan will begin today’s call with the highlights of the third quarter 2020 and Marcus will then cover the business and financial review before Stefan takes over again for the outlook 2020. Afterwards, we open up the call for the Q&A session.
As always, I would like to start by drawing your attention to the cautionary language that is included in our safe harbor statement as in the material that we have distributed today.
And with that, I will hand it over to you, Stefan.
Thank you, Oliver, and good afternoon, everybody. It’s my pleasure to welcome you to our conference call today. I hope you and your families are still doing well in this extraordinary time. Considering the continuing extremely challenging environment, I am pleased to say we have also achieved a satisfying third quarter with significant EBITDA margin expansion despite COVID-19-related declines in order intake and sales. This shows once again that the efficiency measures we introduced last year are bearing fruit and that our new organization is well established, enabling us again to specify our guidance for this fiscal year. I will come back to that later.
Let me now focus on a few key financials. Order intake and sales were down 15.9% and 7.2%, respectively, mainly related to delayed order placements and lower activity due to COVID-19. However, it needs to be considered that Q3 2019 was a record quarter in terms of order intake and sales for our third quarter.
Our EBITDA before restructuring measures increased by 1.6% to €145 million, and EBITDA margin went up by 109 basis points to 12.7%. Both figures benefited from a higher gross profit margin as well as lower overhead costs, in particular lower travel costs due to COVID-19. Furthermore, we have substantially improved ROCE by 580 basis points to 16.3%. This strong performance was based on a significant improvement of both EBIT before restructuring and capital employed. And last but not least, we turned our net debt position of €263 million 1 year ago into a net cash position of €213 million this quarter.
We have added Chart 5 to show that we have made sequential progress from Q2 2020 on a number of KPIs. For example, we have grown order intake by 2%, EBITDA before restructuring margin by more than 60 basis points and ROCE by more than 140 basis points. This development is a clear sign that we are stabilizing or even slightly improving our performance despite the ongoing difficult environment.
On Chart 6, you see the development in the first 9 months of 2020. Order intake and sales are only down 3% and 4%. And when adjusting for currency translation effects, order intake only declined by 1.5% and sales by only 2% in the first nine months.
In addition, we have delivered very strong improvements in terms of EBITDA before restructuring and EBITDA before restructuring margin. With the EBITDA before restructuring margin of 11.5%, we have already achieved the lower end of our targeted range of 11.5% to 13.5% for 2020.
Chart 7 provides you with an overview of the status quo of the operational efficiency measures, which we have presented at the Capital Market Day in September 2019 in London. With regards to our headcount 800 program, we are well on track and have achieved savings of around €20 million in the first nine months 2020 out of the €25 million originally targeted for 2020. Just yesterday, we announced the signing to sell our barn equipment and milk cooling businesses.
These are the third and fourth transactions following the disposal of the Klokslag and the signing to dispose of compressor manufacturing GEA Bock. In other words, we are well on track with our strategic portfolio running despite this difficult corona times.
The new procurement organization has started and is on a good path to achieve the announced savings of around €25 million in 2020. In the first nine months 2020, we have achieved savings of around €17 million. In August, we announced the further optimization of our production network.
In this context and as a first step, we will discontinue our production site in Germany and investment in our site expansion in Poland. As part of the production strategy, production is supposed to become more international in order to increase customer proximity and leverage cost advantages.
Earlier this year, we started a strategic partnership with SAP to drive forward our digital transformation. The ultimate aim is to implement One global ERP system, allowing GEA to establish full transparency on group-wide company data. This is the foundation for significantly simplifying, accelerating and harmonizing the Company’s business process and thus leveraging further synergy potential.
With that, I hand over to Marcus.
Thank you, Stefan, and a warm welcome also from my side.
And coming to Chart number 9 here, as Stefan already mentioned, our solid bottom line performance despite the top line headwind. In the third quarter, order intake declined by 15.9% on a year-over-year basis. This was due to two reasons. First of all, Q3 2019 was an extraordinarily strong quarter across all order size brackets. Division wise, the strength came especially from liquid and powder resulting from six large orders placed in Q3 2019 and to some extent, from separation and flow technology.
The second reason is COVID-19 related. Some of our customers are currently reviewing their business plans, especially regarding large projects and we are, therefore, experiencing a delay when it comes to putting a signature on an order. However, we have not yet seen many customers entirely terminating or abandoning negotiation. Therefore, the pipeline looks very healthy and our sales force is confident that some volume of the pipeline will become orders during the current year.
Continuing now with sales. Sales declined by 7.2% year-over-year in the third quarter, with all divisions being below prior year’s level. Besides the lower demand due to COVID-19, also travel restrictions and limited access to customer sites are hampering our business. The latter two are especially visible in those divisions with an exposure to project business such as liquid and powder, food and health care and refrigeration technologies.
Our highly profitable service business is, however, way more robust and declined only due to unfavorable FX movement. Adjusted service sales were up by 1.1% year-over-year in the third quarter. Despite the lower sales volume in the quarter, EBITDA was slightly above prior year’s level. This increase was driven by lower overhead costs resulting from our cost savings initiatives implemented earlier as well as COVID-19-related savings. The COVID-19 related savings are predominantly coming from lower travel and marketing expenses. The savings in Q3 amounted to a low to mid-teens figure.
Gross profit in Europe was lower than last year. However, thanks to a higher share of service sales as well as better project execution, gross profit margin improved further. To sum it up, Q3 2020 was a good quarter in terms of profitability despite the drop in sales.
Let’s move on to Chart 10 with our EBITDA bridge and the individual profit drivers. Despite the weak top line, our EBITDA before restructuring measures improved slightly to €145 million. Three out of five divisions reported a year-over-year improvement in EBITDA, two were down year-over-year. I think it should be no surprise to anyone here that volume was a negative contributor for both new machines as well as service, although in service to a much lower extent.
All divisions, except for farm technologies, recorded negative volume effect. Margin wise, the entire improvement came from new machines, while service was flat year-over-year. The key driver here was better project execution, and therefore, the improvement is especially visible in our project-related divisions, namely liquid and powder, food and health care and refrigeration technologies.
SG&A costs were lower year-over-year for two reasons. First, due to the cost savings initiatives implemented earlier; and second, COVID-19 related savings, mostly in the form of lower travel expenses. To enhance transparency, we show the positive effect of lower special items compared to last year of in total €3 million separately.
Coming to Chart 11, let me turn to the divisions, starting with Separation & Flow Technologies. Despite the decline in order intake and sales, the division’s EBITDA margin remained stable at a very good 23%. Order intake declined from a very high level last year. Q3 ’19 benefited also from larger orders in the business unit separation, although large orders are, in general, unusual for separation and flow technologies.
Except for pharma and chemicals, all customer industries recorded an order intake below prior year’s level. Dairy processing was leading the decline, but this was exclusively driven by the extraordinary high volume of orders last year in business unit separation.
Sales were down by 9% year-over-year, driven by all customer industries, except for food. Business unit separation has the strongest decline as the business unit had very strong sales in Q3 ’19. Service sales went down by 5.6%, but increased their share in total sales to 41.8% from 40.3%. Compared to Q2 2020, service sales were slightly lower, predominantly due to FX effects. EBITDA was down but margin remained with 23% on the same high level compared to Q3 2019. While gross profit was down due to lower volume, overhead costs were also down.
Now let’s move to Liquid & Powder Technologies. Order intake declined by 37.5% year-over-year and included just 1 large order amounting to €19 million, while last year’s order intake included a large order volume of €105 million from the customer industries, beverages and dairy processing. Our customers are currently preserving cash and are reviewing the business plans for large orders longer than they did before COVID-19.
For now, we believe it’s no more than a postponement in orders and, as I stated earlier, the pipeline looks, therefore, very healthy. On top of the longer decision-making process of our customers, we are still facing restrictions to travel and to access customer sites, which impacts both KPIs, order intake and sales. Sales declined by 4.7% year-over-year. The backlog at the end of Q2 ’20 was 17% higher year-over-year and provided, therefore, a very good starting point into the quarter. However, the restrictions just mentioned were a too high obstacle to generate a higher sales figure.
The decline was mainly driven by dairy processing. Sales of the customer industry beverage, however, even grew compared to prior year’s level given the currently sufficient backlog here. Service sales were down 2.7% year-over-year, but their share on total sales increased to 22.6% from 22.2% in Q3 2019. The EBITDA before restructuring measures was slightly above the level of Q3 2019 and the according margin improved by 60 basis points to 7.4%. Gross profit was stable, thanks to better execution of projects. The increase in EBITDA was, therefore, exclusively driven by an improvement of overhead costs. The headcount reduction contributed to this improvement but also COVID-19 related savings.
Coming to Chart 13. Let me talk about Food & Health Care Technologies. Order intake declined by 2% year-over-year. Business units, pharma and health care and slicing & packaging were up against prior year, offset by declines in the other business units. It is worth noting that the business unit, pharma & health care received a larger order related to the production of vaccine against COVID-19 and that we are currently seeing some more activity in this market segment.
Sales were down by 7.3% year-over-year, as also this division was affected by delays in the execution of orders due to COVID-19. Once again, as we have already stated in Q2 2020, especially those legal entities, which are in Northern Italy, have not yet fully returned to normality. This impacted especially the business unit pasta, extrusion and milling in Q3 2020.
Let me share a quick word on our service sales. Also Food & Healthcare Technologies, the share of service sales has increased and stands now at 27%. The nominal sales figure was flat year-over-year due to FX movements. Adjusted service sales were up by 1.1%. EBITDA increased year-over-year as gross profit and margin improved and overhead costs declined. Gross profit benefited from better execution of projects and overhead costs were lower due to cost savings initiatives and COVID-19-related savings.
Moving to chart, to the next chart to Farm Technologies, the only division in this quarter with an increase in order intake on a reported basis by 6.2% and on an adjusted basis, by even a very good 13.8% year-over-year. This very positive development is a result of a solid demand for automated milking systems across all regions, but also conventional milking equipment sold very well. While China and Russia developed nicely, North America, namely the United States, remained weak. Here, the pressure from COVID-19 is still more visible and farmers are still a bit cautious given the weak milk price development here.
Sales declined by 3.6%, but were up by 2.8% year-over-year on an adjusted basis. Again, North America was the driver behind the weakness. Furthermore, the discontinuation of our barn equipment business had also a slightly negative effect. Service sales were almost stable compared to last year’s Q3, and the share in total sales increased slightly to 42.7%.
EBITDA increased year-over-year, driven by improved overhead cost due to cost savings initiatives as well as COVID-19-related savings.
Finally, we are now turning to Refrigeration Technologies. Order intake declined by 8.1% year-over-year, but was significantly better than in the prior quarter. Some demand has shifted from Q2 into Q3, which has led to a good development in the region, Western Europe, Middle East and Africa. However, we experienced also some order postponements in Germany, Poland and the Czech Republic, which were especially impacting food-related applications.
Sales declined by 10.5% year-over-year, which makes this division the most impacted by COVID-19. Given the weak order development in the prior quarter, the starting backlog was therefore significantly lower than last year. This resulted in lower sales, especially in food-related applications. Furthermore, our operations in Italy, Spain and South Africa are still impacted by the measures implemented by the government.
As a consequence of the lower sales volume, gross profit declined. The combination of cost savings from our measures implemented earlier and COVID-19 were not able to compensate for the decline in gross profit. Therefore, EBITDA declined slightly, but EBITDA margin was almost on prior year’s level.
Let me now continue with net working capital on the next slide. Once again, we were able to improve our net working capital further. On a year-over-year view, our net working capital position improved substantially by €360 million or 690 basis points compared to sales. All divisions improved their net working capital. The improvements were especially strong at liquid and powder as well as separation and flow technologies.
While payables were stable, trade receivables, net contract assets and inventories improved strongly year-over-year. We are way ahead of schedule with the intended net working capital reduction. As you know, we aim to be between 12% and 14% by the end of 2022. And we are now already at 12.3%.
The new organization with responsibility allocated where it belongs to, new incentive schemes for the sales force and regular Cash is King conference costs to track performance are the main drivers for sustainable reduction of net working capital. We are, therefore, very confident that we can do even better and target to end the year with a net working capital ratio of already below 12%.
Coming now to the most important topic these days, cash generation. Despite all the operational challenges related to COVID-19, we generated an operating cash flow of €169 million, a significant improvement to last year’s €118 million. This increase in operating cash flow was achieved despite a higher cash flow — cash outflow related to restructuring measures of €13 million compared to prior year’s Q3. Higher contributions from net working capital more than compensated for the outflow. As a result of our strong net cash flow, our net cash position at the end of Q3 2020 improved by €121 million. This strengthened our financial position further, which I will discuss on my next slide.
So let me talk about our financial headroom, a key topic in the current environment. As always, let me start on the upper left. We have a total committed lines of around €1.4 billion, of which we have utilized just about third, €416 million. Considering our cash of €629 million, we increased our net liquidity to €213 million in comparison to a net debt of €263 million a year ago. This is an improvement of €476 million. And even if we take into account that we plan to pay the second half of our dividend of €77 million this year, it is still an improvement of €399 million. Furthermore, our financial headroom now amounts to €950 million in committed credit lines.
Despite our strong financial position, we decided to take precautionary measures to secure our funding situation by increasing our credit facilities by in total €300 million. On top of that, we have the option to participate in a commercial paper program with a volume of up to €500 million. As I said, this is just an option when necessary. I can only repeat what I said in the past calls, GEA is very solidly funded on a diversified financing structure.
With that, I hand back to Stefan.
Thank you, Marcus. Let me now come to our outlook for the fiscal year 2020 and some other topics. Let me start and share with you the latest value-added output forecast for our customer industries and industrial production in 2020 based on the latest data from Oxford Economics and IFCN. The last call, the chart on the left showed a declining value-added output for all customer industries by dairy farming and dairy processing. This picture has clearly improved. Now all customer industries, except for beverages and chemicals are expected to report an increase in value-added output.
The data shows that the expectations for our customer industries are improving stronger than for the industrial production as a whole. Expectations for industrial production have improved by less than 1 percentage point and are still negative at 4.7% output decline. In the current environment, we are very happy with the exposure to the dairy, food, beverage and pharma customer industries.
Following the overall solid first 9 months, especially the EBITDA before restructuring performance, we have decided to specify parts of our guidance for the 2020 fiscal year despite the fact that due to COVID-19, the overall situation will remain very challenging in the last quarter of 2020 and difficult to predict.
We still expect sales to be slightly down versus last year’s figure of €4.88 billion. However, due to the strong first 9 months and our efficiency measures bearing fruit, we are now forecasting an EBITDA before restructuring measures of more than €500 million. For ROCE before restructuring measures, we now expect to be between 15% and 17%, up from the previous guidance of between 12% and 14%. In the light of the daily rise of COVID-19 cases and the announcement of partial lockdowns in many countries, I want to assure you that GEA is well prepared for the second wave. We are confident to overcome this challenging situation as we can build on our learnings from the first wave earlier this year.
Our highest priority was and still is protecting the health and safety of our more than 18,000 employees. Therefore, necessary measures have been aligned and implemented by the local crisis management teams. In addition, we secured our supply chain by introducing safety buffers where needed; and second, sources to secure supply and we want to keep our production sites up and running. So far, our production was not materially impacted by COVID-19. On the service side, we continue to focus on spare parts and remote service tools, the latter being very helpful to facilitate cooperations with our customers when site visits were not possible.
Last, not least, finance. Here, we will continue our efforts on net working capital management, and we have access to committed 3 credit lines of around €1 billion, if ever needed. Before I close with our road map for the remainder of this year and 2021, let me share my thoughts on Q4 with you. Following the overall solid performance in the first 9 months, we will keep focus and momentum in the last 2 months to deliver on our targets for 2020.
First and foremost, the entire organization will further put emphasis on driving order intake, sales and profitability. Second, we want to conclude our headcount 800 program. Third, we will continue to increase our operational efficiency. Fourth, and as explained earlier, cash generation and net working capital management remain on top of our agenda. And fifth, we will continue our path to divest earmarked low-margin businesses in order to focus our efforts on the remaining operations.
Let me finish with our road map for 2020 and ’21. Next is our Annual General Meeting 2020 on November 26. And on March 4, ’21, we will publish our full year 2020 figures.
With that, I hand it back to Oliver for the Q&A.
Yes. Thank you very much, Stefan and Marcus. We can now start the Q&A. I hand it back to the operator and at the same time asking the participants to limit your number of questions to 2 at a time. Over to you, operator. Please start the Q&A.
[Operator Instructions] The first question we have today comes from the line of Max Yates from Credit Suisse.
Just my first question is around thinking about the temporary cost savings that you benefited from. So I think you had €15 million in Q2. I would have thought you had about €10 million in Q3. So is, are those numbers sort of broadly correct? And how do you think about 2021 for these temporary cost savings? Do you view most of them coming back into the business? And are there further procurement savings and savings related to the people program, the 800 people program that can offset these as they come back into the business? That’s my first question.
Okay. So we had cost savings actually in the low to mid-teens. With our headcount 800 program, we are well on track. We have even more people in comparison which have, which are not over there. So we have a further personnel expense savings there.
Okay. And I mean on the temporary savings, would you expect sort of short-term savings related to less travel, less discretionary spending, management bonuses to come back into the business? Or do you think a large part of that will be sustained?
Well, it depends on the COVID-19 situation. Right now, as it looks, I think we’re probably going to have less travel also in Q4, definitely and, with all but with vaccination, what might be going on, there’s probably also some more savings actually than in the first half of next year. Even though travel probably might pick up there. But it’s also our goal now with the new mindset in the Company that overall also after vaccination, we’re going to travel less and do more with digitalized tools. So I would think, I think our strong goal is really to have less travel expense going forward there. So part of that will hopefully stay.
Okay. Sure. And my second question was just on the SAP unification of the ERP system. Could you give us a little bit of color around the sort of time line to getting all of the different entities unified on the system? And obviously, this is something that we’ve had discussed in the past and came with quite substantial additional cost in the past. So I just wanted to understand, do you see the spending levels on IT sufficient to support this? Or will this come with additional cost?
Well, the time, first of all, the time line has not changed. It’s going to be still progressing till the end of ’25. As you know, we have 67 ERP systems. And that would mean, on average, actually we place 1 ERP system per month. That is on average, of course. So in some years, we’re going to do more; in some years, we’re going to take less. But the time line doesn’t change. Yes, we’re going to have some specific costs for implementing the global SAP project that will go up in the next year. So that’s going to be separate to the IT budget.
Will that be an exceptional cost or taken above the line? And if you could quantify that, that would be great.
Yes, that will not be an exceptional cost. That will be part of our operating expenses because when we said at the Capital Markets Day, we’re going to have a negative effect just looking at the cost. So we’re going to keep this as part of a slightly offsetting effect to all the other positive measures we are doing. And we can actually advise then also of what we see as expense. So far, it’s in the low 1-digit what we have spent this year because we are still in the conceptual phase.
Thank you. The next question today comes from the line of Akash Gupta from JPMorgan. Please go ahead.
Hi. Good afternoon Stefan and Marcus. My first question is on pricing situation. Maybe if you can talk about what is happening with pricing in some of your key markets given order intake for you as well as some of your peers listed ones, which we can track is tracking down high single digit to low double digits. So maybe if you can say if you’re seeing any signs of price pressure in the market. So that’s question number one.
Thank you, Akash. So let me first start with the positive element of your question. This is, of course, that we are running various price initiatives, especially also in the service businesses where we try to find rooms for price improvements and to have a chance to increase prices. There are a lot of programs underway. But on the other side, we clearly have to say that meanwhile, we are seeing that there is a price pressure in the market. This is especially valid for SFT and also in LPT. When it is about the larger projects, FHT sometimes as well. But yes, if you compare us with our peers, you also will see that many of them have even much bigger decline in order intake. And therefore, they are fighting for orders, and that is what we also see at the moment, yes.
Thank you. And my second question is for Marcus on working capital. So you are targeting net working capital less than 12% by end of the year. And in your medium plan, you were targeting 12% to 14% by 2023. So my question to you is that, shall we expect working capital to grow when order intake grows and sales grows maybe in the second half of next year? Or can you continue with less than 12% working capital for — going into 2021?
That’s something we’re really going to take a look now for next year. We have received, of course, in LPT advance payments for bigger projects. And then so we’re going to take a careful look actually if that changes slightly, what kind of effect that could have on the net working capital. On the other hand, I still see that we can do more efficiency in net working capital management. So even if advance payments could be less, I still see the possibility of further increasing efficiency here. So the goal definitely will be to stay around or below 12% also for next year. But as I said, we have to evaluate that also with the advance payments for next year, the project.
Thank you. The next question today comes from the line of Sebastian Growe from Commerzbank. Please go ahead.
Yeah good afternoon. Thanks for taking my question. The first one would be just a quick one on the LPT development. In the third quarter, you had roughly sequentially stable sales. Nonetheless, you have seen that the EBITDA did decline, for what it’s worth, comparatively significantly by €6 million. Can you just give a bit more color around it? It seems like SG&A has been up because in your commentary, you said that gross profit has been okay. So what is behind that, and this is here to stay? That would be my first question.
And the second question is on the demand side of things and also on the pipeline comments you made before. We have now seen 2 quarters with orders for the tickets above €1 million order size at only around €300 million in a quarter, quarter 2, quarter 3, that is. Asked differently, do you think there’s €100 million or more improvement quarter-on-quarter when it comes to the quarter 4 ’20? And is it a fair assumption to think of, say, 1x book-to-bill when you exit the year?
To your first question, very good catch. But we had a write-off of accounts receivable at LPT of €5 million in the third quarter. And when you take a look here, at our quarterly report, you’ll find that we are showing on Page 13, result from impairment of accounts receivable of €7.2 million. And out of that, €5 million was at LPT. And so you need to actually take this out as an operating expense. This is also a onetime adjustment we did there.
I take the second question, Sebastian, about the order pipeline and the outlook for the Q4. We expect that we will not achieve the level of order intake of Q4 last year, which was a very high number as well, but we expect to be significantly above Q2 and Q3. So somewhere in between. This is how we think about and what the pipeline gives, the indications that pipeline gives us.
Okay. That is helpful. And if I may really quickly follow up on pricing and then Akash’s question earlier and the comments you made there. I wouldn’t assume that you are just sitting around and wait and take those prices, but you are rigorously, I think, contemplating potential countermeasures. Could you give us a sense of what you have on mind in terms of eventual step-up in cost savings, et cetera?
You mean overall for the whole group or you mean now for LPT?
I’ll leave it up to you.
The next question today comes from…
Wait a moment. So the main savings in LPT, for instance, are coming from better execution and from cost savings. So for the whole group, we expect to have procurement savings for the full year in the range of €20 million to €25 million.
Well, that will be a situation in for 2020, but considering that pricing, as you said before, is not getting any easier at this juncture, especially on the large projects, I would assume that, as I said, you wouldn’t just simply accept those very lower prices, but eventually think about incremental efforts to just kind of weather the storm, adjust the cost base, et cetera. So is that a fair assumption at least without providing too many color?
Even if I made a clear statement that we feel a much higher price pressure, meanwhile, it’s that so far, we have been able to close our projects on a comparable level. So it’s not that we see a strong impact already on our intake, and we also have a clear direction that we don’t go for growth and by doing so killing margin. So we are noticing that there are some price wars going on around us. So far, I would say, the impact on our backlog is still limited.
Okay. That is good to hear. And then the very final question on this one, which particular areas would see the strongest price pressure?
I mean normally, as bigger the projects are, higher the price pressure is. So therefore, as I said, we see it in LPT, of course, and we see it also in Separation and Flow Technology. This has also something to do that in SFT the share of industries, food, beverage, pharmaceutical are lower, or is lower than the average of GEA. So we also have marine business in SFT, which is really down. We also have oil and gas, which is down. And therefore, we see a bigger impact here.
[Operator Instructions] The next question comes from Sven Weier from UBS.
Mostly rather housekeeping ones. The first one is, when we think about Q4 EBITDA relative to Q3, and I appreciate you have also done the sequential look in the presentation for Q3, I was just wondering about the biggest moving parts for Q4. So I guess, obviously, you will have somewhat higher revenues than in Q3, but what about further bad debt write-downs, additional cost savings potentially, currency, those moving parts again in Q4 relative to Q3? That…
Okay. So what we see in Q4, of course, it’s, still operationally, it’s sort of COVID-19 environment. So we need to see actually how the delivery of new machines are going to be performed. We need to access sites of customers. There are still travel restrictions definitely now in November. Let’s see about December. We also need to see actually where service is going to end up. We have, of course, the majority of our service business in spare parts. So that should be fine, but also a big channel of the service is actually that we have to also go to customer site. So that keeps us a bit careful for, operationally for the fourth quarter.
Additionally, as I stated in prior calls, we’re going to take a very thorough look again at the accounts receivable, which we’re having and I said that we could have a write-down of up to €25 million in accounts receivable. We already did a write-down in that regard of €7 million in the second quarter for unspecific adjusted reserve for accounts receivables. So that is unrelated to the ones I just mentioned at LPT. These are specific accounts receivable. So there would be still to go up to €18 million. I would say — currently, we would say it’s probably a bit lower than €18 million for the write-down. But it’s still there.
And then when you look at FX there, we saw that so far, transactional and translational effect was a headwind of €13 million, 1-3, in the first 9 months of this year. And I think that also in the fourth quarter, there are some headwinds to be expected in comparison to Q4 2019.
So all in all, we still expect a good Q4, but we need to see actually how that ends up, which keeps us a bit careful and which also you saw in our guidance where we said the position is going up this year to over €500 million, perhaps not as bullish as some might have expected. But as I said, we want to stay careful for Q4.
Yes. Well, over €500 million is a broad definition, right? So this can be different numbers, I guess. But in terms of the cost saving run rate, that’s essentially the same run rate as you had in Q3 because I think I remember, the procurement savings were a bit more back-end loaded this year or the same run rate as in Q3?
Yeah, it’s a bit more backloaded. And I said this in the first half of the year where we have seen halfway, in the Q1, we’ve seen none; in Q2, we have seen some; and in Q3, we are seeing now more. So it stays backloaded. As Stefan has said earlier, we expect to see between €20 million and €25 million this year in procurement savings there, definitely. And then, of course, the additional savings, which comes from the headcount 800 program, which is strongly progressing.
Yeah. Thank you for that. And Marcus, just the other question I had probably also for you. Regarding your D&A guidance, which we made at around €200 million. But secondly, after 9 months, you’re running almost at €180 million. So how should we think about total D&A? And maybe you can also give some guidance on the total restructuring cost over long-term. Thanks.
Okay. So the guidance — I hope I answered your question correctly. The guidance we gave is EBITDA before restructuring. And of course, before depreciation and amortization there. So perhaps could you clarify the question with me once again?
Yeah, sorry. If I look at the slides right on Page 39, you have a depreciation and amortization guidance of €200 million, including PPA of €30 million. And I realize that after 9 months, you’re already running at €180 million in total. So I was wondering if we should not model a higher number than the €200 million?
Okay. This is with — okay. So I got your question, sorry. This is without the restructuring expenses we are having in D&A and there was — with the sale of Bock, there was additional restructuring expenses in D&A. That was €15 million for Bock. And that’s why this is the run rate operationally. And then, of course, we have the restructuring expenses, which go also partly then into D&A.
Can the restructuring expense line itself, where do you see that for the year in total?
I see it around €50 million there.
The next question comes from the line of Felicitas Bismarck from Deutsche Bank.
Just 1 quick. Did you say €50 million for the restructuring expense because that would imply almost nothing in Q4, right? Is that correct?
That would be correct. So right now, it might change, then we give that out. But from that perspective, yes, that would imply nothing much in Q4.
Okay. Sorry, but that was just acoustically. It doesn’t count, okay. The other question I had, I really think your margin momentum is actually quite impressive. And you mentioned quite often better project execution. I was wondering, if you could give us an example of the measures that you were actually doing that to improve those project executions. And if there’s further room to go in 2021, 2022 or if you think now everyone is kind of on a good level here?
Yes. I mean let’s start with the basics or with the first most important thing that we have in our organization is clear responsibilities. If you compare how projects were managed in the past, there were no overall responsibility for 1 project. It was simply divided to different legal entities and everybody did its best and nobody was responsible for the overall outcome. This is what we changed. We have also people who are doing project controlling then for the projects. Now again, and we also just started in introducing other rules and milestones with clear kickoff meetings of projects and binding milestone meetings, things like that. So it’s a whole bunch of, let’s say, professionalization of project management.
And do you think there’s more room to go in terms of profit upside from this? Or is that basically on a good level now?
Yes, absolutely. I mean this is a journey as well. I mean it’s not that we are changing everything within 1 or 1.5 years, let’s say, I expect that it takes 2 or 3 years until we are really best in class or really, on a really leading-edge organization in terms of project execution and project management.
Okay. And the other question I had is when you think about your midterm guidance, margin guidance and basically the timing of the step-up still to come because you have, you’ve had very good progress in both the efficiency and restructuring measures, but the bulk is now basically in 2020. And there are some of the other measures probably going to take a little bit longer and services is probably not going to outgrow new equipment again. So when you think about the trajectory, do you think it’s more 2020 weight in terms of where you want to be just from a timing and 2021 could be like taking somewhat of a breather in the margin step-up? Or do you think it’s more graduate?
I mean first of all, now we, let’s close 2020 and let’s see where we end up and then we give the guidance for ’21. However, we are very happy with the achievement so far. Because as you see, we are already at the lower end of our guidance range we gave for the year 2020. What will be different or what do we expect to kick in? Of course, even more procurement savings than this year.
Then we are also improving project execution furthermore. And last but not least, it also need to be considered that we are achieving this margin level despite a declining volume. And this is, I mean if you would imagine that we probably would have made €200 million more turnover this year, then it really kicks in margin-wise. So this, I would say, is the path we need to go.
Yes, but you also have some counter effects, right? Pricing, for example, would be one which was coming down a little bit, also that service is no longer outgrowing new equipment in terms of mix effect. That’s why I’m asking if it may be rather 2022 when you really have a lot of revenue coming through. But that’s very helpful.
One last question I had was on the headcount. Did you just from acoustic, did you say you had €25 million left, you have €20 million achieved so far, €5 million left for Q4? Or was that just a calculatory thing that €25 million was originally planned, but there’s actually more upside in Q4?
So we have until the day after nine months around €20 million savings impact. And we expect to be at around €25 million at the end of the year.
Okay. So the €5 million really is the number you would expect in Q4, not more than that, there is no upside to that?
Everyone here on the call actually, for the EBITDA, I said €50 million for restructuring expenses. I was on the EBITDA line, okay? So it’s €50 million on the EBITDA. And because on the EBIT line, we are already above €50 million. So perhaps that might have been a misunderstanding between us. So I said €50 million, but it’s on the EBITDA line, and therefore, there’s €23 million to come on the EBITDA line there. That’s what I was talking about when I said €50 million, okay?
Next question comes from the line of Denise Molina from Morningstar.
Actually I wanted to ask a question about China, just looking at some results from some of the end markets. Danone had some comments about China being pretty weak for them because of the closure of the border.
So my question is really about your positioning in China with domestic customers if China has shifted towards consumers willing to accept Chinese products, given that they were deprived of import products for a while. What is your positioning in China? And if you could look at it from a division level, which ones you have the strongest positioning with domestic producers?
I mean when we look at our numbers in detail, I can clearly say that China is a strong region for us right now and also picking up. I mean you can clearly see that China got, let’s say, rid of the virus very quickly while Europe is heavily struggling or Latin America as well. So China is a region where we are quite happy with the development. And we see also no structural changes at the moment that we would expect that they are not buying machinery coming from European companies anymore or so, if that was the question.
Question was more on the consumable products because Danone had lower sales in China because they weren’t able to bring in their products into China. So the Chinese market was consuming basically food stuff from Chinese producers, some people that would have gone for export premium products or Western products. So I guess my question is really, I noticed that the SFT’s results were pretty good on the China side. Do you supply to domestic Chinese companies in SFT and other divisions?
Yeah. We are also delivering to Chinese customers. But on the other hand, of course, we are also supplying a lot to multinationals, which are also producing in China as well. So it’s a mix of both. Especially, let’s say, in the pharmaceutical industry, we are also delivering to pure Chinese player because they, of course, appreciate very much European equipment because they want to always be on the safe side. So it’s a mix, we have both.
And can I ask one last question. This is actually related to acquisitions, which you talked about last quarter, but in your long-term plan, is there any idea to move into software, like simulation software is something that could be integrated with your equipment?
Of course, digitization is an important issue for us, and we are also working heavily on this issue with our new global technology organization. If — of course, if we find a right company which would fit to us and would be available for digitization and software, we would not exclude that.
Great. Thank you.
Thank you very much. The next question comes from Lucie Carrier from Morgan Stanley. Please go ahead.
Hi, good afternoon gentlemen. And thanks for taking my questions. Apologies if you’ve already mentioned that, I had some connection problem, but I wanted to ask you about your backlog, which is a little bit down so far year-to-date. And I was hoping you could give us some indication, first around the profitability you have currently in this backlog compared to your current business.
But also secondly, at which pace do you expect this backlog to kind of transforming into sales, i.e., is it — should it be relatively quick and support quite nicely 2021 in terms of revenue stream? Or do you also have more kind of long-dated type of project in there, which could suggest maybe you would need to generate relatively quickly new project to support the 2021 top-line?
Yes. I mean concerning the backlog and the quality of the backlog, it’s always a mixture of product mix and so on. As I said before, we have — we see that price pressure is becoming bigger, especially for the large projects and in SFT and LPT, especially. So far, we feel quite comfortable with the order backlog and the margin in the order backlog. And we do not expect a significant negative or positive impact for next year’s profitability coming out of the backlog.
Thank you. And regarding the kind of the duration of this backlog that you currently have?
Well, I mean this comes from the declining order intake. It’s clear if we are declining in order intake, also backlog goes down a little bit. This is how it is, yes.
Any perspective from your standpoint in terms of kind of the pipeline you are currently seeing that could suggest that you could have in the short term a pickup in this backlog dynamic?
Yes. I mean we expect that Q2 and Q3 are the lowest quarters in the COVID situation we see. We are very optimistic that Q4 is higher than Q3. As I also said before, it will not be on such high level like Q4 last year, which was an extremely strong quarter. And then, I mean, for next year, it’s difficult to predict, I would say. I mean everybody is hoping to see a vaccine and it’s very difficult to predict how the COVID situation will develop. So when, we are very optimistic that once it disappears or the vaccine comes up that we will also see a rebound effect.
The next question comes from the line of Daniel Gleim from MainFirst.
The first one is for Stefan. You just mentioned there could be a pickup effect once a vaccine is found. Could you provide a little bit more color how big that uptick could be? Do you expect in such a scenario a normalization, let’s say, ’21 similar to 2019? Or could there even be a temporary overshooting in terms of orders and execution once the vaccine is found? This the first question.
The second one for Marcus. We discussed a lot about the impact from pricing. You haven’t seen any yet on the gross margin and the order intake. Stefan commented that the backlog suggests no meaningful impact for the revenues in 2021 over 2020. But could you provide a little bit of color if you only focus on external factors in the current order intake whether there’s any meaningful change from an internal perspective, change the profitability of this project? But if you isolate your view only to the external factors, including pricing and so forth, is there any meaningful change at this moment that we should consider incrementally to your internal measures? That is the second question.
I mean let’s first talk about the pipeline and the potential pickup or rebound or however we would like to name it. The order pipeline we see is quite promising. So what we see is good, is okay. So it’s not that we are seeing that the pipeline is declining. So, but what we see and what we very much noticed is that customers need more time to make the decision and that many, especially larger projects tend to be postponed until the customers have more clarity about the economic situation. And of course, this might end up once the situation is clear and the fear of COVID is gone, that we might see a kind of rebound, but it’s extremely difficult to predict, yes. I just can say that we have enough projects that it’s not that we are missing projects. The pipeline is full. The pipeline is on a very interesting level. But it’s, the question is when does a customer make the decision and decides to order.
Coming to your second question. So by far, the biggest part of our profitability is coming from service. And service is a very stable business. I mean if we said FX neutralized, we actually had an increase in service. So we don’t see that much of a price pressure actually in our service business. Where we have some more price pressure, as Stefan said, is in bigger projects there.
But all in all, it’s in a way that we can cope with this. It is probably more a question if we get enough order intake, not of the pricing situation. I mean if we see some underutilization in production, that probably would hurt us more than any price negotiations right now with our customers.
But if you take a look at our order backlog, even though order intake in Q3 was €200 million below, we were very strong in Q1 and also in Q2, so order backlog is actually just €150 million below on a year-over-year comparison, which is less than 5% there when you look at the order backlog. So that’s your situation. I mean we need to monitor how the order intake is coming or the COVID-19 situation is doing. But service is really stabilizing our profitability and our gross margin.
The last question we have today comes from the line of Lars Brorson from Barclays.
A couple of quick ones for me, if I can. Just coming back, and sorry to belabor the point, Stefan, around the commentary on fourth quarter. It sounds like it’s very predicated on landing some larger orders. I wonder whether you can help us understand a little better what you see in your base business and what you see in your service business sequentially, there hasn’t been much of an uptick sequentially into the third quarter. Could you help us a little bit with how you see that tracking into the fourth?
And on the large orders, is there anything you can say around end market? I appreciate that there’s customer uncertainty, and that’s quite broad-based. I would have thought end markets like brewery and foodservice probably under greater pressure. I’d love to hear what you’re seeing on the dairy processing side.
Okay. I mean the remarks I made for Q4 are not really depending on a very few big, big orders. So there is also a normal underlying business, which we saw also in all the quarters. So it’s not that we are, let’s say, depending on one or two or three orders to come or not to come.
When it is about the, to give you a bit more color about the individual markets, it’s, dairy is doing quite okay. Especially also in FHT, we also see projects for butter, for instance, coming up. Oil and gas is no real change. It’s also on a very low level. So marine business is also on a low level. We see some projects in the U.S. about hotels, for instance, with a good market dynamic. So it’s — I mean, when we look to FHT, it depends on customers, more or less. I mean retail is weaker than customer-serving supermarket. Poultry is stronger than beef. So this is, let’s say, what I can tell you to give you a bit more color.
And of course, if you look to the regions, I would say, frontrunner is really China. China has picked up. China has a good and stable development. There are no travel restrictions for people who are living in China or in the country. On the other end of the scale, there is Latin America, where we see a very strong impact on order place — orders placed.
Thank you. Secondly, if I can, to Marcus, perhaps more. I just wanted to clarify what you said, Marcus, around ERP spending. I seem to recall at the Capital Markets Day last year, we talk about a sort of €55 million, €60 million spend over 5 years. I was thinking that was sort of a low to mid-single-digit euro million impact next year. Is that the right sort of number? Or are you seeing a more sort of significant short-term ramp around ERP spending?
No, I was referring to this year actually with a low to mid — with mid-digit, 1-digit number that I was referring to this year. Next year, it’s going to be — next year is going to be higher there. So — but it’s up to — we will not be — it’s up to the beginning of the 10th, that could be the case.
If I can, finally, I see there’s no strategy update, Stefan, in your road map as it were for 2021. So I wonder whether you can help us whether you feel — or when you feel it’s time to come back and update the market on your progress?
I mean you know that this is very difficult to predict now during this very volatile COVID time. So of course, it’s our wish to meet you as soon as possible or maybe also we’ll think about any other format, how we can do that. So it’s, of course, our intention to come out like promised and like discuss with a Capital Market Day. But now, let’s say, wait and see how the year ends up in terms of the COVID situation, how the so-called second wave will develop. And once we have more clarity, we will come back to that question.
Thank you very much. There are no further questions. I’ll hand back the call to Stefan for closing remarks.
So thank you, operator. Again, thank you all for your questions. Let me try to make some closing remarks and to point out what are the key takeaways. Firstly, order intake in Q3 was below last year, but slightly above Q2 this year. And we expect this trend to continue in Q4 or, in other words, order intake in Q4 should be clearly above Q3, but below Q4 last year, but significant improvement and therefore, going in the right direction.
Secondly, in the first 9 months, we have seen a very solid operating development with strong increases in EBITDA, ROCE and free cash flow. And thirdly, we are confident to achieve our specified guidance for 2020 and are on track to achieve our targets for ’22 despite the COVID-19 situation. And we think that this is, or should be a good message for you and the right message to close the call.
Yes. Thank you very much for participating. Stay all healthy. All the best, and talk to you soon. Bye-bye.