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Edited Transcript of EPIRa.ST earnings conference call or presentation 31-Jan-20 9:00am GMT

Q4 2019 Epiroc AB Earnings Call

Feb 3, 2020 (Thomson StreetEvents) -- Edited Transcript of Epiroc AB earnings conference call or presentation Friday, January 31, 2020 at 9:00:00am GMT

TEXT version of Transcript

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Corporate Participants

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* Anders Lindén

Epiroc AB (publ) - Senior VP of Controlling & Finance and CFO

* Mattias Olsson

Epiroc AB (publ) - SVP of Corporate Communications

* Per Lindberg

Epiroc AB (publ) - CEO, President & Director

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Conference Call Participants

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* Andreas Juhani Koski

Nordea Markets, Research Division - Analyst

* Andrew J. Wilson

JPMorgan Chase & Co, Research Division - Analyst

* Edward Perry

HSBC, Research Division - Analyst

* Guillermo Peigneux-Lojo

UBS Investment Bank, Research Division - Executive Director and Industrials Analyst

* Klas Henrik Bergelind

Citigroup Inc, Research Division - Director

* Madhvendra Singh

BofA Merrill Lynch, Research Division - Research Analyst

* Markus A. Almerud

Kepler Cheuvreux, Research Division - Senior Research Analyst

* Max Yates

Crédit Suisse AG, Research Division - Research Analyst

* Olof Krook Larshammar

DNB Markets, Research Division - Analyst

* Robert John Davies

Morgan Stanley, Research Division - Equity Analyst

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Presentation

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Mattias Olsson, Epiroc AB (publ) - SVP of Corporate Communications [1]

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Welcome, everyone, to Epiroc's Q4 2019 results presentation. We will use the same format as always. We will start with the presentation from our CEO, Per Lindberg; and our CFO, Anders Lindén, and then we will go into a Q&A session.

So without further ado, please Per.

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [2]

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Thank you, Mattias, and that's Mattias Olsson, by the way, in charge of communication for Epiroc. And it's a pleasure to be here. This is actually my last quarterly report for Epiroc. And again, it's been a pleasure to represent the company publicly, and I think we've had a good development over these years.

Especially looking at 2019, record revenues, record profits, we increased revenues with 7%, profits by 10%. We've had continued high interest for automation and digitalization. We made acquisitions. We've done fair amount of efficiency actions.

We started some, all of them are not finished, but I think a year with a lot of actions to continue to improve the profitability and strength of the company.

All in all, resulted in a margin of 21% adjusted. And I think, again, a year that I can be and we can be happy with.

On the back of that, the Board will recommend the AGM a dividend of SEK 2.40. And as a result, also the very strong cash flow of SEK 6.7 billion. So again, 2019, a strong year.

Looking at Q4, more specifically, it's clear now that we do have a step down in demand when it comes to equipment in the second half versus the first half. We expected in Q3 that the demand would be more or less on a similar level in Q4, and that turned out to be the case.

We had a demand of 9.3 -- or order received of SEK 9.3 billion in Q4 as compared to SEK 9.6 billion in Q3, and the difference there is really primarily currency.

Looking at equipment, we had an orders received of SEK 2.6 million in Q4 versus SEK 2.7 million in Q3, again, currency. So demand is more or less on a similar level. But it's clear again that there's a step down in demand of equipment in the second half versus the first half.

Good news, of course, is that service continues to grow healthily, and that's a good backbone for the future development of the company, and I expect that also to continue into the future.

We also had lower revenues in Q4. This is due to the fact that we adjust down the capacity and production. We have seen lower orders on hand, and this is a function of the book-to-bill ratios that have come down. So we're adjusting capacity, and that's why we also see lower revenues.

We see improved underlying margins, and I think that's, of course, positive. We've seen a positive mix. And we've also seen some restructuring costs, of course, that will have an impact on the reported margin, underlying margin improves.

Cash flow, strong in Q4. And of course, we continue the focus on innovation. And when it comes to efficiency actions, again, we have done a lot of things in 2019, we'll continue to do that. I would have expected actually to see more of that coming through to the bottom line, and we were -- we've done a lot of things, and we'll continue to do that. The good news there, of course, is that we'll see that coming through beginning of this year rather than in end of 2019.

So looking at the key financials. Both orders received as well as revenues down 7% organically, up in nominal terms, driven by currency and acquisitions, but organically down 7%, as just explained.

Profits at a little bit more than SEK 2 billion, and that includes items affecting comparability of SEK 115 million, adjusted, as mentioned, 20.7%. And we have a cash flow strong. And it's very good news to see that the -- there is a good improvement in working capital, driven by a reduction in production, but also our efficiency actions. So cash flow is a function of a very good development in working capital, primarily.

Now key focus for the company strategically is to work with innovation, and there's several developments that are worth highlighting in Q4. One thing that really demonstrates the potential and the interest of our 6th Sense solutions, which is really a comprehensive package of digital solutions for managing and monitoring the equipment and the production in mines is our delivery of 6th Sense to Pucobre.

And this is a very comprehensive solution for them, and that's going to help them to improve their productivity and the management of the mine. So a good indication that we are delivering the right type of solutions to the market.

We also have a partnership with Orica to develop a system for semi-automated explosives deliveries. And this is something that will improve safety and also improve productivity in the charging and the blasting in underground mines.

In the picture, you can see the Pit Viper 270. It's a new rig, which is -- have several automation features. We also launched PowerROC D60 with a Tier 4 engine, also with the aim of improving the environmental footprint. And we also have some other features when it comes to down-the-hole hammers, i.e., our consumables. And also worth mentioning is that the number of connected machines increased to 3,600 versus 3,400 that we announced in Q3.

So development when it comes to innovation is -- continues to be very good.

Also when it comes to operational excellence, and as I just said, we've been doing a lot of things when it comes to operational excellence and to improve the efficiency. And not all of that has given effect certainly in Q4, and we'll continue to give effect as we move along into 2020.

Now what we've seen is a reduction of workforce with over 500 people. Many of those related to the restructuring that we do in rock drilling tools, i.e. consumables, but also we've done normal, so to speak, efficiency actions to improve productivity in our ongoing operations. We have -- as mentioned, we have initiated efficiency improvements in indirect functions and our functional costs, i.e., administration and marketing, in order to decrease the cost and increase the efficiency. And we announced the target of SEK 300 million in savings, effective from Q1 of this year and onwards, and that is rolled out according to plan.

We closed down a factory in China. We've sold a facility in Sweden, and we announced also that we'll consolidate dimension stone equipment from Italy to India. And all of this, of course, with the aim of improving efficiencies.

And as mentioned, that's something what's in focus in 2019. All of the effects not in place yet, but they will come into effect in 2020.

When it comes to safety, we've seen a good development over 2019. We rolled out a safe start program with the intention of really improving the intention and behavior of our -- all of our employees, and that is starting to give effect. So we see some good development, and we'll continue, of course, to focus on that.

Supply chain program really progressing according to plan. And also the -- this gives a good effect on CO2 emissions, by the way. So environmental footprint has also improved as a consequence in 2019.

Now to the business. This is just a breakdown of the proportion of sales between the different segments. Equipment, 28% in orders received in Q4; service, 44%; and Tools & Attachments, 27%. When it comes to revenues, we see equipment at 36%; service, 39%; and Tools & Attachments, 25%. All in all, aftermarket, 64% versus last year, little less than 60%. So aftermarket is increasing its portion of our total revenues and orders received.

Equipment & Service. As mentioned, there's a very big difference between Equipment & Service when it comes to orders received. Orders for service, up 6%, again, a very good development. And this is also a growth beyond the actual production among our customers, so this is a growth driven by our own actions. And we're gaining market share in our own fleet, and the rollout of service products has been very successful, driving this 6% growth.

I expect that to -- that we'll be able to continue the growth in service. Now the percentage remains to be seen, but I think we can continue to have a very healthy development in service.

Equipment, very different. It's down 22%, as already mentioned. And the demand is really what it is, and the focus of the company, of course, is to adjust capacity and adjust cost base for this variation in demand.

Revenues for the segment is down 6% organically. Profitability is at SEK 1.8 billion, that includes efficiency improvement cost of SEK 28 million related to the reduction of headcount in order to create these efficiencies. And margin increased to 23.9% versus 23.2% last year. And if you look at the graph, bottom right, you can see that the margin goes down from 26.3% to 23.9%. And of course, a good question will be, why is that? Well, it's really 2 things. It's currency and it's mix.

So in Q4, we -- the revenues or the sales is really -- there's a big increase in equipment, whereas service relatively flat, as compared to Q3. So that's why we see the drop in the margin for the segment. There is not a drop in margins for the underlying, either service nor equipment, so that's not the issue.

Tools & Attachments, orders up 9%, minus 4% organically. Of course, we've done acquisitions into this segment, explaining that difference. And we see revenues up 3%, down 10% organically. And the difference there between orders received and revenues is really that we've seen a decrease in orders on hand, that's why we also adjust production. But also, we are making significant changes in our footprint, and we've closed factories, as mentioned, we've sold factories as well. And also, we had a voluntary step down from business also in quarter 4. We mentioned that in quarter 3 and quarter 2 also. And we continue to do that. So -- and that's really the reason why we see an organic decline in both orders as well as revenues.

Margins at 11.8% versus 13.3%. And essentially, this is an area where I would have liked to see more effect of our efficiency improvements. And we do a lot of changes. If we adjust for the costs associated to the efficiency programs, it's at 12.5%. We also have a onetime cost associated with an acquisition of 18. So back that out, 13.2%, still not where we should have been. But again, good news is that we are doing the efficiency actions, and there is -- the effects will roll into the results going forward.

So with that, I leave it to Anders.

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Anders Lindén, Epiroc AB (publ) - Senior VP of Controlling & Finance and CFO [3]

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Thank you, Per. And as usual, the routine, a little bit more of a dive into the numbers. And we have -- of course, there will be a little bit of a repetition from what Per just said, but nevertheless.

As you see here, the reported margin of 20.7%, and it is higher than last year, the same quarter, but lower than we expected. It's okay, but it's not a great quarter. The noncomparable items, we have described SEK 115 million. So I will not talk more about them at this point.

But if we look at the profit bridge here then, with a reported margin of 19.6%, adjusted at 20.7%, as Per said, the SEK 115 million can be divided in SEK 42 million of LTI provisions. That is actually a swing compared to last year with SEK 109 million, and that you can see as part of the minus SEK 149 million in structure and other to the left-hand side of the graph.

SEK 73 million includes in addition to the SEK 45 million in efficiency improvement costs also a onetime item related to the agreement with the departing CEO. This, of course, as before, is supported by currency year-over-year and also diluted by the organic top line decline. Sequentially, as Per mentioned already, the currency is actually working against us for the moment.

If we look at the Equipment & Service, adjusted 24.3%, reported 23.9%. Of the SEK 45 million, SEK 28 million, here you can see, is part of the noncomparable items that we add back. Again, here, the top line organic decline has diluted the margin, and it's also supported by the currency.

Tools & Attachments, 12.5% adjusted, 13.2% if we include the onetime EUR 18 million that Per mentioned as related to the acquisition. That is what you can see as part of the 30 in the structure and other. So that is obviously lower than we would have liked, and we would have liked to see a better traction in this segment. But it -- we expect a better 2020 than when we see all the effects of all the activities.

If we look at the cost side, what looks like a cost increase for quarter 4 is actually slightly lower costs like-for-like. If you take the 17 point -- sorry, SEK 1.708 billion and compare that to the SEK 1.637 billion, if we take out acquisitions and currency and what we have just talked about as the onetime items, it's actually slightly lower than last year.

On the tax expenses. The lower effective tax rate in Q4 was somewhat -- or something we expected. Some of the activities in this part of the ecosystem is actually only possible to confirm during Q4. So all in all, over the year, it's on the level where we expect it to be, considering the fact that we do have some items we -- that costs we have taken during the year that we don't expect to be tax deductible.

Capital structure. Short net debt at the end of this year of SEK 483 million. Negative impact of the introduced IFRS 16, almost SEK 2 billion, which has been fairly stable during the year. When it comes to capital employed, I will come back to that. But obviously, that has had a gradual impact as we calculate the average capital employed when it kicks in.

And we also have quite a significant impact on the return on capital employed. Per mentioned, the dividend proposed by the Board for SEK 2.40 per share and also will be proposed to be paid as last year in 2 equal installments in May and November.

Net working capital, up in nominal terms, but down in comparable terms and quite significantly down in Q4 from currency. And we also had good effect from a reduction in both inventories and receivables during the year. With a slightly lower activity on the capital side, we had an offsetting impact of lower payables and advance payments.

But overall, an organic decline in working capital. However, if you look at the ROCE, which I indicated before, we have a significant effect, a negative effect from the IFRS 16, 1.4 percentage points. And actually coming down from Q3, that is also one of the main explanations, together with the cash generation and also the gradual impact from the recent acquisitions that increase our average capital employed.

Finally, talking about the cash flow. In our short history as an independent company, this is a record cash flow quarter, which you can obviously see from this slide. It tends to be higher in Q4, although 2017 doesn't show that, where we were not fully, let's say, independent company or a company with a complete balance sheet, which we are, since -- as you know, since almost 2 years now.

But good cash flow from the working capital. Actually, operationally, we have SEK 1.5 billion improvement from contribution from the working capital. And as Per said, the full year, SEK 6.7 billion operating cash flow.

With a focus of -- on working capital in general and many initiatives on the inventory and receivables, we have seen a good impact in the fourth quarter. And we will continue, obviously, in 2020. We know that we have some areas here where we need to improve, but so far, a good work by the teams. So...

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [4]

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Thank you, Anders. And the summary is pretty much the same areas that I started out with when it comes to describing Q4. Order intake, pretty much in the same level as Q3. We continue our focus on innovation. We continue focusing on efficiency actions to continue to improve the underlying margin. Q4, as such, was not a stellar quarter, but we do have actions in place to continue positive development when it comes to our margins and profitability and also cash flow, as mentioned by Anders.

But I think the most interesting news in Q4 is actually that Helena Hedblom will take over as CEO and President from March 1. And I'm very, very happy to hand over to Helena. She's a very good person. She's a recognized and very appreciated leader. And she has a very strong drive. She understands the business. She understands our customers. And I'm sure she's going to be a very excellent CEO, leader and representative of Epiroc going forward. So very pleased to do that.

Now just to firm it up when it comes to demand expectations. It is clear that our customers remain cautious in making investment decisions. As mentioned, there is a step down. How long this cautious behavior will continue, unclear. But when it comes to our outlook for the coming quarter is that we expect it to be more or less on the same level as we saw in Q4. So that concludes the presentation.

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Mattias Olsson, Epiroc AB (publ) - SVP of Corporate Communications [5]

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Okay. Thank you, Per -- or thank you, Per, and thank you, Anders. Now it's time for the Q&A. (Operator Instructions) So please, operator, please give instructions on how to ask a question.

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Questions and Answers

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Operator [1]

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(Operator Instructions) The first question is from Guillermo Peigneux, UBS.

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Guillermo Peigneux-Lojo, UBS Investment Bank, Research Division - Executive Director and Industrials Analyst [2]

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I wanted to ask one question regarding the overall demand progression through the year. Obviously, what we see is that Asia, Australia demand, especially for Equipment & Services went up materially during the year, whereas Africa, South America, North America to a lesser extent, but also down in Europe. So there's 2 clear ways of basically how the market evolves. But I wanted to understand the reasons behind the strength in Asia and in Australia, why that market behaved differently from the other markets?

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [3]

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Well, first, that's a good question. First of all, I think that the market really is better understood when looking at commodities rather than geographies, and I think we'll probably start looking at that going forward.

But nevertheless, this is now being reported on a geographical basis. And we've made progress when it comes to Asia, especially in China. We're rolling out a strategy when it comes to, we call it territory management. It's been very successful, and we're making progress when it comes to capturing market and volumes. So that's visible in the Asian numbers. In Australia, we've made progress when it comes to aftermarket development as well, and I think that's also visible. Looking at the -- of course, there's a big contrast what you see in North and South America. In South America, we have very tough comparables. We have delivered many large orders. So we got many large orders in 2018, which means that we see decline in 2019 just because of that. North America, a little slower when it comes to infrastructure, and I think that's really the explanations that I can think of. Maybe you guys have something else, but that's what I'm thinking of.

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Guillermo Peigneux-Lojo, UBS Investment Bank, Research Division - Executive Director and Industrials Analyst [4]

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Okay. And maybe a follow-up on all the actions. Obviously, you're being -- Q4 has been very active with plants being closed, business being divested, restructuring actions, altogether. What would you say will be the progression through 2020? At what point do you expect to see these actions resulting in bigger incrementals when it comes to profit sensitivity? I want to understand a little bit how these actions will actually flow through there for the year as we go forward.

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [5]

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Yes. And another good question and very relevant, I guess. Well, there's different components in the efficiency actions that we're undertaking. The one that you were talking about are really the -- call it the structure of the footprint. Plant closures or sales, that -- with -- the ones that we've done, we did in Q4, end of Q4. So certainly, the effects didn't roll into Q4, but they will roll into Q1.

We also have additional efficiency actions when it comes to -- as I mentioned, when it comes to indirect cost, admin, marketing, where we make efficiencies, and that's going to roll into also in Q1, Q2, primarily. And then a third area, which we've been working on for quite some time, is our supply chain program. That is a more gradual and has a more gradual impact, which will not necessarily have sort of a step change in the beginning of the year, but gradually over the course of the year, I would say. And I would -- I can also say that it is not unlikely that we will do more structural changes in 2020, but if that's -- those decisions are made, we'll come back to that.

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Anders Lindén, Epiroc AB (publ) - Senior VP of Controlling & Finance and CFO [6]

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We did announce one in the beginning of this month, as you know, and it's also in the report. But...

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Operator [7]

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The next question is from Max Yates, Crédit Suisse.

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Max Yates, Crédit Suisse AG, Research Division - Research Analyst [8]

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Just -- my first question is on capital allocation. Obviously, your balance sheet is now looking relatively defensive. And I just wanted to understand how we should read that. Is that a sign that you are sort of pursuing acquisitions more aggressively next year? Or do you think this is more a reflection that there are some macro risks, and it's more an appropriate balance sheet for the environment?

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [9]

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Well, it's not a reflection of the perception of macro risks. The company has -- will -- the assumption is clearly that the company will continue to have solid margins and solid cash flow going forward. And that's -- so if anything, it is a reflection that we would like to have some firepower in case we have opportunities to use the balance sheet.

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Max Yates, Crédit Suisse AG, Research Division - Research Analyst [10]

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Okay. And then just as a follow-up, I just wanted to check on the services side. Did you see any disruption in your business from what was happening in Chile around the strikes, i.e., would that service growth rate have been higher had you not seen any impacts there? Or is that not really an issue for your business in this quarter?

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [11]

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No. It was, I mean, very marginal. It's not -- I would -- it's not material. So it didn't have any impact on the business.

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Operator [12]

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The next question is from Klas Bergelind, Citi.

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Klas Henrik Bergelind, Citigroup Inc, Research Division - Director [13]

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Hi, Per and Anders, Klas from Citi. So I wanted to come back to the guidance. You've been guiding for a flat demand for quite some time but equipment orders seem to continue to disappoint, at least, versus our expectations in the market. And I appreciate that there is a 2% to 3% currency headwind quarter-on-quarter, therefore, equipment orders broadly flat organic. But I thought there was some higher seasonality in the fourth quarter. Are you effectively now, Per, guiding for all-in flat demand into the first quarter? And could you talk a little bit more about the pipeline? Sandvik talked about a little bit better pipeline towards -- sort of in the beginning of the year, so I will start there.

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [14]

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Well, I'm not exactly sure what you mean with all-in flat. So maybe you can clarify. And when it comes to...

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Klas Henrik Bergelind, Citigroup Inc, Research Division - Director [15]

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Yes, I can clarify that by saying that, is there any seasonality in your guidance? Or do you effectively guide just like what you see? So should we expect the order intake that you have in the fourth quarter in equipment to be the same roughly in the first quarter? Is that how you see your guidance?

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [16]

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That's how you should read that, yes. And when it comes to Sandvik and their pipeline, well, that's their pipeline. And at the end of the day, we operate more or less in the same market, so maybe there is a difference in tone in how we describe the market. But essentially, I think we're looking at more or less the same type of market. And if you also look at the growth or decline actually in orders received for them as well as for us, it's very much on the same level.

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Klas Henrik Bergelind, Citigroup Inc, Research Division - Director [17]

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All right. Then my second very quick follow-up is on the cash flow for you, Anders. Receivables are lower and so are inventories. How much is this a cyclical effect versus the improvement of the supply chain you're working on? Could you give some steer on how the supply chain optimization are progressing? When can we start to see sort of underlying improvements to the working capital trends?

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Anders Lindén, Epiroc AB (publ) - Senior VP of Controlling & Finance and CFO [18]

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I would say, no it's -- the improvement in the cash flow and the reduction of working capital, obviously, is a composition of many things. And I would say, there is an effect of the supply chain activity. But also the supply chain activity is not only going to have a positive impact on our inventory, we also do this to improve our, let's say, ability to serve the customers in terms of a better utilization.

So we have various, let's say, forces here. We have a reduction in -- or a small reduction in production for the cap divisions. And that has quite a significant impact on the reduction in payables because that's where we do have more of, let's say, contribution from the payables and the long-term payment terms that we -- and the programs that we have in place.

But we have absolutely improved and see a clear, let's say, reduction in receivables, and we continue to do that.

On the inventory side, yes, I've said many times that we are definitely, let's say, below average in performance. So our activity will continue to be on lowering our inventory in general. I'm not prepared to quantify this. But as you can -- and maybe that's -- you would have expected me to be able to do that or at least be a little bit more, let's say, transparent, but there are so many things in this computation, so it's really hard to say what is what. But in our terms, our target and ambition when it comes to working capital reduction, we expect and -- we'll go down in relative terms in working capital going forward.

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Operator [19]

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The next question is from Markus Almerud, Kepler Cheuvreux.

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Markus A. Almerud, Kepler Cheuvreux, Research Division - Senior Research Analyst [20]

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Markus at Kepler Cheuvreux. My first question is just on the wording. So you -- when you talk about demand and push out, you use different words. So on the one hand, you say a step down in demand and then you talk about push outs of projects and delay of projects. So just when you have the discussions on the ground with the customers, what kind of language are they using? Because I would assume that the pipeline of orders has not changed because that's what we heard across the board from others.

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [21]

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Yes. Okay. So pipeline is -- we call it business cooking internally. It's really a pipeline. And that pipeline or business cooking has not changed in terms of its magnitude or potential volume over the course of 2019 and certainly not over the course of Q4. So the potential business out there is still unchanged. The effect of the cautious behavior when it comes to spending capital has meant that there is de facto in reality a step down in actual orders placed. And also, what does that mean? Well, it means that these potential -- the potential orders in the pipeline or business cooking is pushed out in time. So that's really what's happening. Hopefully, the language is not confusing. But the orders that we've been talking about are pushed out, they're not making -- they're not placing an order this month, maybe next month, maybe next quarter. So that's really what's happening. And at the end of the day, it materializes in lower orders received for us.

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Markus A. Almerud, Kepler Cheuvreux, Research Division - Senior Research Analyst [22]

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Okay. Yes. I was more -- yes, so I was curious just in terms of when they communicate this to you and when you sit down with the customers, what kind of language they are using in terms of when they're not taking the orders that you had expected, et cetera, et cetera? So that's the kind of the base of my question. Okay. So my other question was -- yes?

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [23]

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Yes. I don't think I have a very good answer to exactly what the language they use in terms of how they explain the situation. So I can't really -- I can't give you any better flavor of that one.

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Markus A. Almerud, Kepler Cheuvreux, Research Division - Senior Research Analyst [24]

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Okay. My second question was just also on type of language used. So you see now that more than half of your orders are from brownfield for expansion. And I think that -- before you said that the majority of orders have been from expansions from brownfield. So has there been a change, that is, as is, have you really seen a collapse in new orders, whereas the replacement orders have been unchanged more or less? Or can you just talk a little bit about that?

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [25]

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No. This -- the Q4 replacement -- the expansion was, I think, about 65% business and replacement 35%, the ratio is typically 60-40 and has been historically. Are these 5% material or significant? I don't think so. I think we're still looking at brownfield expansion being the prime driver. People are expanding capacity due to, of course, higher production, but also deteriorating ore grades, more complexity in mines, et cetera. So that's what's driving equipment demand at the moment, and less so, obviously, replacement.

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Operator [26]

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The next question is from Anders -- sorry.

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Mattias Olsson, Epiroc AB (publ) - SVP of Corporate Communications [27]

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Operator can I stick in with a question from -- I have a question here in the office as well. So I'm coming back to you.

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Olof Krook Larshammar, DNB Markets, Research Division - Analyst [28]

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Olof Larshammar from DNB. One question and that's relating to the aftermarket. Could you please elaborate a bit on the possibility that you see for 2020 to continue to grow the aftermarket business? Do you think it's possible to further increase the market share among existing customers?

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [29]

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I think the opportunity is still very good. I think we made progress as we've seen in service. And no reason to believe that we will have less opportunity in 2020 than we saw in 2019. Now that is not the forecast saying that we're going to grow with the magnitude that we grew in 2019 in 2020. But the opportunity is still there, and I think we're going to grasp that opportunity. And when it comes to the other part of the aftermarket, i.e., tools, drill rods and drill bits, we are making several changes. The -- this is driven also by production. And once we get -- stabilize the new footprint and also stabilize sort of the changes in our portfolio, I think we'll have opportunities to continue to grow there as well.

But one should be aware of that we're also backing out of some business for profitability reasons, and we'll continue to do that if these volumes are not profitable. To what extent that's going to happen in 2020, we have to see. So far this year, we've -- I think, we're around 3%, 4% or something like this in terms of backing out of that business, maybe it's going to be more or less the same in 2020.

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Mattias Olsson, Epiroc AB (publ) - SVP of Corporate Communications [30]

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Okay. Thank you. Back to you, operator.

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Operator [31]

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And we move on with the next question via the telephone line. It is from Andreas Koski, Nordea.

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Andreas Juhani Koski, Nordea Markets, Research Division - Analyst [32]

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Firstly, on cost savings activities. Could you please give us an indication what the amount of those savings could be?

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [33]

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I think we lost you there for a second.

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Anders Lindén, Epiroc AB (publ) - Senior VP of Controlling & Finance and CFO [34]

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The magnitude of the cost saves.

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [35]

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Yes, yes, yes.

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Andreas Juhani Koski, Nordea Markets, Research Division - Analyst [36]

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Okay. Shall I...

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [37]

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No, no, That's fine. I think we understand. Yes, I think we understand. I think the only thing that -- with -- been explicit around it are the effect of the efficiency actions on our indirect cost, SEK 300 million effective from Q1 of this year, i.e., now. The rest, we have not been explicit, will not be explicit in terms of its effect on either top line or bottom line. But certainly, it will have an effect.

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Andreas Juhani Koski, Nordea Markets, Research Division - Analyst [38]

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Okay. But the 500 -- and was it 21 -- people that left the organization in Q4, is that related to the indirect cost savings of SEK 300 million? Or is that part of the direct cost savings?

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Anders Lindén, Epiroc AB (publ) - Senior VP of Controlling & Finance and CFO [39]

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Yes, well, part of it. Yes, it's a combination. It's -- obviously, we have also closed down some business. So the 521 that you're referring to, yes, there is an element of it that is referred to these savings programs. But remember that we've also -- this is not comparable numbers per se, but it's a nominal term. So we also divested one factory in Sweden, so it's the total headcount. But yes, in that number, we have some efficiency improvements. And also, as you know, the SEK 45 million that we discussed as cost for efficiency activities or restructuring costs, even if they are not dramatic, are related to some people leaving the company, yes. And we -- I think we said in Q3 that we expect it to be between 50 and 100 in total, and it's probably going to be closer to the upper than the lower. But it -- the activities are still ongoing.

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Andreas Juhani Koski, Nordea Markets, Research Division - Analyst [40]

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Okay. But the total cost savings target for 2020 will be significantly higher than the SEK 300 million you have communicated from indirect costs.

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [41]

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That's correct. And a further clarification of what Anders said. I mean the vast majority of the 521 in headcount reduction in Q4 related to the closures or divestments of facilities, a portion of it direct efficiency actions.

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Andreas Juhani Koski, Nordea Markets, Research Division - Analyst [42]

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Okay. And then quickly on Tools & Attachments. I think you said that -- I think it was at your Capital Markets Day that you said that Tools & Attachments should return to normalized and positive organic growth levels in 2020, but it seems like you're stepping away from that [EBITDA], and you would see a need for continuous takeout of unprofitable products. Is that the way we should read you when you say that there was a...

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [43]

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I mean -- I think one should understand it like this, I mean, we're -- if there is a need for us to continue to back off potential volume for profitability, that is now in the comparables. So if -- you can just disregard that in terms of growth. So I think we'll have the opportunity to continue to grow with a more healthy product portfolio. So that's how it should be understood.

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Andreas Juhani Koski, Nordea Markets, Research Division - Analyst [44]

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Already in 2020?

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [45]

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Yes. Yes. Yes.

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Anders Lindén, Epiroc AB (publ) - Senior VP of Controlling & Finance and CFO [46]

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But I would say the focus in 2020, it's also to -- on the profitability.

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [47]

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Oh, absolutely.

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Anders Lindén, Epiroc AB (publ) - Senior VP of Controlling & Finance and CFO [48]

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Maybe even more than the growth.

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [49]

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Yes, that's good clarification. The -- sort of the focus is -- exactly focuses on restoring profitability, first; secondly, grow. It's not the other way around.

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Andreas Juhani Koski, Nordea Markets, Research Division - Analyst [50]

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Okay. And then can I just quickly squeeze in a question on the service business as well, on the organic growth there. Because looking at the past 3 quarters, the order intake has been roughly SEK 4.1 billion, so you haven't been growing sequentially for a few quarters now. And you -- Per, you said that you expect continued growth, but it remains to be seen at what rates. So are you feeling that demand in the service business is stabilizing or leveling off a bit or...

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [51]

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No. I think -- well, as mentioned already, I think there's plenty of opportunities for us to continue to grow. Our expectation is to continue to grow our service business. At one point last year, I also mentioned at the quarterly -- I mentioned that it's not unlikely that the growth of service will take somewhat of a breather end of 2019, maybe that's what we're looking at. But it's not a breather to stop breathing at all, it's just -- so it's just perhaps a temporary effect. So we expect that the growth to be our possibility to grow service continues to be very healthy, and I expect us to grasp that opportunity.

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Operator [52]

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Your next question is from Andrew Wilson, JPMorgan.

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Andrew J. Wilson, JPMorgan Chase & Co, Research Division - Analyst [53]

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Can I just ask a question on the conversations you're having with customers with regards to the transition into areas like electric and autonomous and greater digital products? So I'm just wondering how this sort of hesitation in terms of, obviously, equipment orders is actually perhaps slowing down the transition on to some of these new sort of more innovative areas. And just, I guess, how we should think about sort of penetration rates and whether that might be a little bit slower than we had perhaps thought previously.

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [54]

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No. I think, my -- from what I understand -- I'm not involved in all the direct discussions with customers. But from what I understand, the -- as mentioned already, I think the demand and our sales of, call it, digital solution in general and battery solutions continues to be very healthy. Of course, a general cautious behavior in our end market will have an impact also on the sales. But I cannot say that we see a -- or that we're disappointed or that the sales of automation products or digital solutions or battery solutions are lower than expected. Actually the other way around, I would say, when it comes to battery solutions, it's actually exceeded our expectations to a certain extent. So I think it continues to look good.

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Andrew J. Wilson, JPMorgan Chase & Co, Research Division - Analyst [55]

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Maybe if I could just clarify one of the earlier comments. On the Tools & Attachments, just thinking about the top line in 2020, you obviously talked about various initiatives you've got in terms of kind of restoring underlying organic growth, if we can call it that. But was I right in you think there's going to be a 3% to 4% headwind on the top line in 2020 as a result of walking away from some lower-margin products? Just to clarify that.

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [56]

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Well, I'm saying that's potentially so. But one should also understand that this was the case already in 2019, from the beginning of 2019. So when it comes to comparables, it's already in comparison. We did that in 2019. If needed, we'll do that in 2020. So it shouldn't have necessarily an effect on growth per se -- growth potential per se.

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Anders Lindén, Epiroc AB (publ) - Senior VP of Controlling & Finance and CFO [57]

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Maybe. Maybe, yes. But maybe to say also this, as Per mentioned, the, call it, a voluntary walk away or whatever, it's part of the comparables, it's part of what we call organic. And it's not black or white, what you can include and not include. And then obviously, it's a little bit of an assessment. Is this something we walk away from or not because you actually don't accept the price to go below a certain level. So...

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [58]

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No. I -- again, just to be even more clear, there's no reason to think that the market or our volumes will drop with 4% just by us backing away -- additionally, backing away from what we -- from volumes compared to what we saw in 2019. That was a clarification. I think so.

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Operator [59]

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The next question is from Robert Davies, Morgan Stanley.

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Robert John Davies, Morgan Stanley, Research Division - Equity Analyst [60]

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I just had a question really around again, sort of, I guess, looking at some of the customer behavior or customer conversations. Do you feel there's any sort of back-up or sort of pent-up demand of orders from customers that have been on the back burner, whether it was through trade concerns or waiting to get to sort of full year budget resets, this kind of thing that could come through in the next 3 to 6 months? What are customers telling you are the kind of key reasons for holding back on projects? And do you hear anything on the ground that would make you more encouraged over the next 6 months that could see those projects come through?

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [61]

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I think what we're looking at is, people are -- customers are defending their balance sheet, they're really looking at, yes, the consequence of not replacing older machines for new machines that you will increase your cost for maintenance and operational cost. And I think it seems like what people are willing to do is to do that trade-off. And so a consequence of that, in turn, is, of course, that we see more of aftermarket sales, i.e., service. So the growth in service is partly a consequence of older machines. Is that now -- or do we now see indications that people will start with more replacement in 2020 than what we saw in 2019? Not necessarily indications that's that going to happen.

But of course, I mean, in the longer -- the longer our customers wait in terms of replacement, the more overdue, so to speak, the replacement will be. So -- but it also -- we've -- over the last year, we've received several questions in terms of when is the replacement wave coming? But I don't think it's going to be a wave necessarily. It's going to be more of a general positive support for demand going forward rather than anything else.

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Robert John Davies, Morgan Stanley, Research Division - Equity Analyst [62]

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And then maybe just as a sort of follow-up on just around aftermarket activity. We've obviously seen a number of quarters now where OE declines have been pretty strong, arguably against tough comps, but it has been quite a weak period on OE growth. How long before that starts to feed through and affect that aftermarket business? I know you mentioned there was some reclassification of whether it becomes a sort of maintenance or sort of aftermarket part of the revenue. But what sort of typical period do you see of weakness in OE before it starts to have a knock-on impact in your aftermarket business?

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [63]

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Well, it's kind of difficult to say, I guess. But the -- of course, I mean, if OE sales would drop to 0, we would, over time, of course, also see a decline in service, but it's not going to be 0. But it's -- we -- typically, a new machine doesn't generate all that much service for the first months or 1,000 hours of operation, it's over time. So it's going to be somewhat of a time lag before that has an effect. That's one observation. The other one is that we're still not at 100% market share when it comes to service on our own fleet. So we still have potential to grow service in the existing fleet without really considering, if you like, any addition to that fleet in the field. So I think we'll have opportunities to grow our service not independently, but we'll grow the service and the existing fleet with the actions when it comes to new service products and new geographies, et cetera. So I think that's a key opportunity when OE sales somewhat sluggish.

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Operator [64]

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The next question is from Edward Perry, HSBC.

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Edward Perry, HSBC, Research Division - Analyst [65]

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Firstly, perhaps just on infrastructure, you mentioned some softness in North America. But could you please talk a little bit to what you've seen elsewhere, perhaps the dynamics in Europe too? And any distinction between civil engineering and other business lines?

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [66]

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Well, I don't have all that much details as of right now, maybe some -- one of you guys do. But what you can say is, typically, the end of the year is somewhat slow when it comes to hydraulic attachment tools, which is part of infrastructure. That was the case also in 2019. It's not a surprise, it's more seasonal. So -- but there's -- for the general demand for -- or maybe you have some light to share, but I don't at the moment.

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Edward Perry, HSBC, Research Division - Analyst [67]

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Okay. And then just one follow-up on M&A and capital allocation. How is the acquisition pipeline looking as we head into 2020? And to what extent would you ever sort of explore moving into other areas of, let's say, the mining value chain even if that was slightly outside of your preferred niches?

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [68]

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The pipeline of -- I think we haven't -- a solid pipeline doesn't necessarily mean that all of that will be materialized, but there is a solid, interesting pipeline when it comes to potential acquisitions. It is challenging to make acquisitions into the niches that we are because of market share reasons and other reasons as well, and not the least, the dilution when it comes to margins from an acquisition. We saw that, by the way, clearly, in Q4 in Tools & Attachments. So of course, there's a balance. I mean we do have opportunities, but we're not going to jump at every opportunity.

But we'll -- and part of your question was, are we looking at stepping out of our niches going forward? Well, at least my perception has been that we're quite comfortable where we are in terms of our niches when it comes to underground position and service drilling and certainly stay there. And going beyond that, I've been hesitant. But I think also, there could be potentials to perhaps understand the value chain differently in the mine and how to impact the overall efficiency from -- basically from drilling through blasting and all the way into crushing and [culmination]. So maybe there are opportunities arising here, but we'll see.

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Operator [69]

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The next question is from Maddy Singh, Bank of America.

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Madhvendra Singh, BofA Merrill Lynch, Research Division - Research Analyst [70]

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Just briefly on if you have seen any impact on your business from the recent coronavirus issue in China? And would you expect any major impact on the business this year? And also, just on that, is there any clarity on whether closures have been -- can be extended further?

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [71]

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Okay. The coronavirus, good question. First, just some basic facts. We have -- China, represent a little less than 4% of our total business. We have a little less than 1,000 people employed in China, 25 locations. And we have one individual that has been affected by the virus and are now in recovery. And that's -- those are the facts, basically. And in terms of what do we do? Well, we implemented significant travel restrictions. We monitor our Chinese employees if abroad and also our employees that potentially are in China, travel into China, to make sure that we have -- to keep track of where they are.

And essentially, if somebody has traveled to China, we put them in 2 weeks quarantine, more or less, working from home to make sure that if potential virus doesn't spread. And when it comes to actions, specifically in China, we basically follow the instructions from the local governments in terms of keeping business closed, if necessary. That's pretty much it. Maybe, again, you have...

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Anders Lindén, Epiroc AB (publ) - Senior VP of Controlling & Finance and CFO [72]

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Yes. No. But maybe just -- I think you said it. But to be even clear -- obviously, we are following up and monitoring every individual that we have employed in China. So we have a full track of...

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [73]

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Yes. Then also when it comes to potential impact on business, we're essentially -- we're mapping pretty much the supplies of parts, spare parts, components to our plants as well as to our aftermarket in order to make sure that we have alternative sources if needed, and if, for some reason, the supplies from our Chinese suppliers would be -- would not happen due to the virus. That's what I can tell you now.

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Anders Lindén, Epiroc AB (publ) - Senior VP of Controlling & Finance and CFO [74]

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I'm sure this will be a question going forward, but we're still at a reasonably early stage to see the consequences.

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [75]

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Yes. Correct.

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Madhvendra Singh, BofA Merrill Lynch, Research Division - Research Analyst [76]

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And just a very quick follow-up on your workforce breakdown. Could you talk about what portion of the workforce is on permanent payroll versus contracts and outsourcing? And whether -- any trends which you could share on that and the plans going forward?

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [77]

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Okay. We have -- when it comes to workforce flexibility, we typically try to have somewhere around 20% flexibility when it comes to temporary blue collar workers, that is, and of course, when we come to -- when we look at the headcount reductions that we're looking at in production, most of that are temporary workers. The exact number that we're at right now, don't have that specific number right now. Maybe, again, we can...

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Anders Lindén, Epiroc AB (publ) - Senior VP of Controlling & Finance and CFO [78]

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1,300 some additional workforce. But that's -- I mean, it's -- we have additional -- what we count as additional workforce, which is also mentioned in the report that is obviously blue-collar as well as other services in service and engineering and so on. So it's not all in the factories. But the ratio during the year has obviously gone down as you -- we also take the measures of reducing the total headcount.

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Mattias Olsson, Epiroc AB (publ) - SVP of Corporate Communications [79]

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I think with that, we conclude Epiroc's Q4 results presentation. If you have further questions, don't hesitate to reach out to me, Mattias Olsson. We will try to help you. So thank you. Thank you, Per. Thank you, Anders.

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [80]

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Thank you very much for your attention.

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Anders Lindén, Epiroc AB (publ) - Senior VP of Controlling & Finance and CFO [81]

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Thank you so much.

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Per Lindberg, Epiroc AB (publ) - CEO, President & Director [82]

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I will not see you next quarter.

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Operator [83]

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Ladies and gentlemen, thank you for your attendance. This call has been concluded. You may disconnect.