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Edited Transcript of FLS.CO earnings conference call or presentation 2-May-19 12:00pm GMT

Q1 2019 Flsmidth & Co A/S Earnings Call

Valby May 20, 2019 (Thomson StreetEvents) -- Edited Transcript of Flsmidth & Co A/S earnings conference call or presentation Thursday, May 2, 2019 at 12:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Lars Vestergaard

FLSmidth & Co. A/S - Group Executive VP & CFO

* Thomas Schulz

FLSmidth & Co. A/S - Group CEO

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Conference Call Participants

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* Andrew J. Wilson

JP Morgan Chase & Co, Research Division - Analyst

* Claus Almer Nielsen

Nordea Markets, Research Division - Senior Analyst of Capital Goods and IT

* Klaus Kehl

Nykredit Realkredit A/S, Research Division - Chief Analyst

* Kristian Tornøe Johansen

Danske Bank Markets Equity Research - Senior Analyst

* Magnus Kruber

UBS Investment Bank, Research Division - Associate Director and Research Analyst

* Mikael Petersen

SEB, Research Division - Analyst

* Robert John Davies

Morgan Stanley, Research Division - Equity Analyst

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Presentation

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Operator [1]

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Hello and welcome to the FLSmidth First Quarter Interim Report 2019. Today, I am pleased to present CEO Thomas Schulz; and Group CFO Lars Vestergaard. (Operator Instructions) And as a reminder, please note that this call is being recorded. Speakers, please begin your meeting.

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [2]

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Hello, everybody. We welcome you to our Quarter 1 2019 interim report for our company FLSmidth here out of Valby in Denmark.

At first, the key highlights. We had a strong order intake. We have quite a solid order backlog, seasonal low revenue in the first quarter, the profitability declined in the first quarter due to Cement and a positive free cash flow. The market outlook for mining remains at a good level. The cement market outlook is unchanged. Guidance for 2019 is maintained based on the higher revenue particularly in Mining, what we will get, and improved profitability in Cement.

In this first quarter 2019 interim report and presentation, we now present our sustainability footprint and our way -- how we act and deal with sustainability. Sustainability is, for more than 135 years, an essential part of our DNA. Our productivity improvement and enhancement theme, what we have for quite a long time, actually tackles and includes a lot of sustainability issues. We have in the world 17 Sustainability Development Goals. When we looked, as FLSmidth, into it, they are free: water, climate and responsible consumption and production, which are the areas where we as FLSmidth have the biggest impact towards our employees, suppliers, customers and the society where we act in. And that is where we will focus on with a very special intensity.

But if you would like to be an essential part in the sustainability, you have to measure on your own too your own performance. And there are 2 KPIs, what we report on: one is the relative carbon footprint, what we lowered and measured in tonnes per DKK revenue -- DKK 1 million revenue. We lowered from 2018 with a 3.22 to a 2.89 in quarter 1.

Another one is safety. Safety is important for us. Safety is very important in Mining and very important in Cement. We can claim that we had the most successful safety quarter ever since we measured safety for the company with 1.5 in TRIFR, coming quite significant down from last year and are well below the target, what we have for 2019, of 2.7.

The other thing what we are, yes, proud and presenting in all the quarterly reviews is our impact and our innovation, digital innovation to -- into the industries where we act. This time, it's about composite mill liners. This expands our wear part offering. A composite mill liner, which consists out of metal, rubber, polyolefin and ceramics enables our customers and us to have lighter and bigger pieces what we can build into SAG and ball mills, which makes it more safer, which makes the capacity significantly bigger and, with our special design and production out of FLSmidth, gives us a possibility to offer to our clients a higher grinding performance. One added gift on top of it is, if customers would like, we can add processors into these composite mill liners. We have online recording and influence to optimize at any point of time the grinding performance.

Out of that, into the market outlook, which is overly unchanged. Let me start with Cement. Cement, we still have selected opportunities and significant regional differences in the world where cement investments happen or not happen. There are only a few tenders for large orders out, and the intensive pricing pressure and pricing competition in the market between the premium suppliers is ongoing. It doesn't increase. It doesn't decrease. It's exactly the same as it was before. There's a good level of mid-sized order opportunities in Cement out in the market.

Now, to Mining. Mining's demand for equipment and projects, especially for productivity improvement and a better sustainability footprint, is on a good level. The activities are more or less in all commodities. But for us, of course, copper and gold have a very special position, and their activity levels are quite good.

For both together, we have to say that the OpEx level is stable and good, and the customers are looking into productivity-driven things through digitalization, innovation and sustainability.

Out of that, into the figures. Here, on that slide, you see the order intake, which was quite strong in the first quarter. On the left side, let me start with the Mining part. We have on the figures a minus 10 order intake for Mining year-on-year, and it comes out of the fact that we couldn't repeat a large order what we got at the beginning of 2018 at the beginning of 2019. We got a large order a few days and weeks after the quarter closed, but it is typical for that business always lumpy, not in the quarter, so we had a minus 10. Important for us is, of course, the overall development of that business, how are the base orders. Orders below DKK 200 million developing. And there, we had the growth of 10%.

Now, to Cement. Cement was growing quite significantly, 54%, and this proves -- because it's based on two large orders, mainly because the base orders only increased 1%, but with the 2 large orders, we again proved our very strong market position in the premium segment.

Out of that, on the right side, you see the development between order intake and revenue and actually some information about service too. It's easy to recognize that we have a good run on order intake and that our revenue recognition lags behind.

And we would like, on the next slide, a special information to look a little bit into it. On the left side, you see the order intake versus revenue as 12 months' rolling. The blue graph shows the revenue, and the white one is the order intake. You see that our order intake is significant above and developing, as we call it, as a positive cap since the quarter 3, quarter 2 2017 already.

And that pack is quite healthy and actually shows graphical our solid order backlog. But there's another information in it, and the information is that in our business, the revenue comes slower and kind of lagging after the order intake. And we see here, 4 to 6 quarters is not something special for that kind of business where we are in.

Another information is our guidance range, the '19 to '20 DKK 1 billion. And you see that the revenue graph already in the 12 months' rolling is on the low part of our guidance range. And we expect, of course, to be in the guidance for 2019.

On the right side, you see order intake versus revenue on the service. But to have the real information what happens in our service business, I'll go to the next slide.

Here, on the left side, you see order intake and revenue in the Cement business. And you see that our revenue, especially since the beginning of 2017, is going down up to the quarter 2 2018, and that is based on our management decision years back to derisk our operation and maintenance business in Cement. And that is what we did, and that brought us to that level, stable and quite good level for Cement, but a lower level than we had it before in the Cement part.

On the right side, you see the revenue and the order intake for Mining in the service part. And you see that our order intake is well above the revenue, and that the situation with the revenue recognition has to get a little more explained. Why is the revenue not faster coming up after the order intake? It is related out of several items. If you get awarded with retrofits orders and longer-term maintenance orders, you have the order intake quite significant into a quarter. And until the revenue comes, it can take 3, 4 quarters until it really drops in.

Another part is the time lag. If we get big larger orders, not only above the DKK 200 million where we sent -- get the order intake for the first time spares which gets supplied, then when we commission these bigger orders in the time when everything gets delivered. And there is, of course, a time lag, too. That explains the difference between our good order intake run and, from quarter-to-quarter and from time-to-time, lower revenue versus that what may be is expected.

Out of that, we look into the revenue split for the quarter 1 2019. We had 58% of the revenue in Mining with a 9.5% EBITA margin and an EBITA margin of 3.7% and a 42% revenue split out of Cement. The 3.7% EBITA margin is low for Cement, but you have to look into the figures and the details of that business, and you already see that our gross margin significantly increased in the quarter 1 for the Cement business versus the second half of 2018, which proves that our measurements what we took in the mid of the year '18, the corrective actions definitely drop in.

Then to the business mix in the quarter 1. We had slightly lower service business and a significant higher CapEx business, which, of course, has an impact on the profitability when we look into the seasonal low revenue part.

And now, to my dear colleague, Lars.

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [3]

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Thank you. And now we'll go through the numbers. I'll start by making a few key points in the numbers. The first point is that we have a very strong backlog at the end of quarter 1, and that strong backlog is the one that gives us a lot of confidence that we will deliver on our full year guidance. So revenue will pick up as we move into the rest of the year.

That backlog also gives us fairly good visibility into what kind of projects we're executing for the rest of the years, and that also confirms that we can maintain our full year guidance. So that's a very important data point in our backlog that confirms our full year guidance.

The second point I'd like to make is that gross margin is down in the quarter. And as Thomas mentioned, you could see that revenue from service was low in the first quarter and actually substantially lower than order intake. So that has a negative impact on the gross margin in the first quarter.

The second point I'd like to make is that in Cement, we are executing projects with a lower margin than what we will be executing in the later part of the year. And that will also improve our margins as we move through the year.

So all in all, there are these 2 big explanations for the set of numbers we have here. And if I should just make a small comment of IFRS 16, we implement that without changing the comparison figures like many other companies do. And that, of course, impacts our ratios. We've shown it here on the chart where you can see our gross margin is slightly up. Due to the new accounting standards, our SG&A ratio comes down and our depreciation goes up a lot. So this is more just to show you what would the numbers have been without this accounting change.

Are we happy with the 7.1%? No. It is lower than what we would like to be at this point in time, but it is very much explained by the mix we have had in the first quarter with low revenue from service, with low revenue from -- with revenue from lower margin projects in Cement. As we look through the years, these 2 things will help us to get into the guided range on the margin, so not a lot of concern from our side on the low margin in the first quarter.

If you then look into the revenue, you can see that we are up in revenue in Mining, and it's mainly capital that's going up. And in Cement, we are very much flat in the quarter compared to last year.

If we look into the gross margin in the 2 industries, Mining is slightly down. It can be entirely explained by mix. So more -- less service than in the comparison figures last year. In Cement, we are comparing with the quarter last year that had the highest gross margin. And as you'll remember, we took actions after the third quarter to mitigate the impact from the lower margin orders that we were executing. So as we look through the year, we will see that we'll start to execute better projects, and the margins will come up. But the comparison figure is also demanding in Cement, and we will see improvements as we move through the years.

On our SG&A cost, it is as per plan. We had a slight increase in the SG&A cost, and it's mainly related to digitalization. And here, you can also see that we have an impact from IFRS 16 on the SG&A ratio. One very important point to make on this SG&A ratio is, as we look out through the rest of the year, we will get higher revenue, and that higher revenue will come with a less increase in SG&A cost. And that, of course, gives us a lot of operating leverage, and our SG&A ratio will be diluted as we go through the year. And that will, in itself, drive up our margins when the revenue comes up.

Here, you have the bridge of the EBITA margin. So there is an impact from higher revenue, then there is an impact from lower gross margin and then we spent more money in SG&A. So it is very much the increased SG&A and lower gross margin that explains the lower margin.

Working capital. We had positive cash inflow from working capital. If you look at the cash flow statement, on the balance sheet, it is stable. So a little bit up, but that's mainly the reason. Why there is a disconnect is that currency increases our net working capital. If you strip that out, then we had a reduction on working capital.

As we look throughout the year, we had -- we will bring our networking capital ratio below 10%. One of the key places where we will bring it down is on the inventory where as we move through the year-end, this increased backlog will start to convert into revenue that will drive down the inventory plus a lot of focus on getting this number down. So no alarm bells here, it's a key focus area and we will work hard to get this down in the remainder of the year.

As you may recall, we sold off our Bulk Material Handling business towards the end of January. And here, we'll just give you a little update on what happened to that business in the first quarter. We had a cash outflow of DKK 70 million from provisions in the first quarter. When we closed the deal, we had to lay off some people, and that was a cost of DKK 31 million. And then we have settled a legacy projects, which was another cash-out of DKK 40 million. And that's -- those were the movements in the first quarters.

As we look out from here, we expect over the rest of '19 and '20 to have a cash outflow of around DKK 100 million, and these are mainly related to settling the provisions we still have on our balance sheet, DKK 247 million at the end of quarter 1. And then to offset that, we have a positive working capital balance of DKK 153 million, which will then be reduced towards 0 when we are finished with these projects. So that's the status on discontinued, no new risk discovers. The only movement in provisions is related to settling some of the things we already knew when we started the quarter.

Coming into cash flow. So on the left-hand chart, you have the cash flow for the continuing activity. So that means you take away the numbers from the previous page. We had a flat development on EBITA. And of course, as we move through the year, we do expect to see an increase in EBITA compared to the previous year. The cash flow from operations was DKK 306 million. It was helped by a reduction in working capital. We used some provisions and paid our taxes. So that explains the movement in the cash flow from operations.

On the right-hand side, you have the cash flow for the entire group. So that's the numbers on the left-hand side plus the impact from the previous base of minus DKK 70 million. So the cash flow from operations from group was DKK 230 million. We spent a little bit more on investments in the first quarter, a bit of it is related to digitalization, and a substantial part is related to increase in R&D where we are capitalizing the same projects as we were capitalizing last year.

All in all, we had a cash flow of DKK 149 million for the first quarter. It's maybe worth to mention that IFRS 16 has an impact on the free cash flow. When you implement that, you move DKK 21 million that used to sit in free cash flow, you move that to cash flow from financing activities. So there is a change in the base compared to the same period last year.

Here, you have the capital structure. We have a strong capital structure. We would have reduced our debt in the first quarter by around DKK 200 million if we had not implemented the accounting change. The accounting change brings back DKK 312 million to our balance sheet.

So before I hand back to Thomas, just to summarize, we have a strong backlog. We have done initiatives to get the margin up in Cement, and we will start to execute projects with better margins. So the increase in revenue combined with the operating leverage makes us very confident that we can deliver on our full year guidance.

So with that, back to you, Thomas.

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [4]

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Thanks, Lars. So then next is about the management agenda. As you see on the left side there with that what we have as a revenue recognition, in front of us, the arrow is on net working capital, and EBITA, of course, will have quite a significant improvement. But overall, when we look into the safety, when we look into the DIFOT, we have areas where we improved a lot or are slightly below that what we have at the beginning of last year.

Very important is to talk about the strategic focus areas versus that what we see in the market and market move. We stick with our long-term strategic focus to intensify our position as a productivity provider, #1, and that is clearly focused on customers with innovation and digitalization, sustainability got a higher importance based on recent events in the mining industry especially, as well as the standardization where we now go into the next step of that phase, it's the modularization approach.

Short term, it is our task and we promised to the market, and we will fulfill that, that more than 10% of our business in the aftermarket will be outer wear parts. We are in a very good way, and we will fulfill that target. We showed you the composite mill liners and other products in the last few years, what we do here. We grow that business intensively. We grow our product business throughout. We have a good order intake and a good order backlog going in that area. And our new structure, what we have in the company, really helps to be closer to the customer and having, what we call, higher hit rates on the customer and more interaction.

Out of that, into the guidance, which is unchanged. We have a comfortable and solid and good order backlog. And the revenue recognition, what we see, of course, the '19 to '21 guidance stays as well as the related EBITA guidance from 9% to 10%. And this higher revenue, particularly out of Mining and the improved profitability of Cement, is underscoring that way of doing for 2019.

To summarize, we had a strong order intake, we see ongoing positive trend in mining and the cement market unchanged, we have a lower profitability due to Cement, a positive cash flow and we maintain the guidance for 2019.

With that, we can go into the Q&A.

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Questions and Answers

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Operator [1]

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(Operator Instructions) The first question is from Magnus Kruber from UBS.

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Magnus Kruber, UBS Investment Bank, Research Division - Associate Director and Research Analyst [2]

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Magnus Kruber, UBS. First, you have some mix effect in Cement. Do you expect the mix to improve or -- in Q2?

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [3]

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Yes. So I think the question was related to whether we expect the mix to improve already in Q2. We had a very low revenue from service in the first quarter. So that was below run rate and below the order intake. So we are expecting the revenue from service to go up in the second quarter. So already in the second quarter, we expect a mix -- or at least a positive improvement from more revenue from service, and that should underpin our EBITA margin in Cement.

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Magnus Kruber, UBS Investment Bank, Research Division - Associate Director and Research Analyst [4]

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Is the 2 mix effects that we are seeing in the quarter both from lower margin projects that are executed as well as the mix between equipment and service?

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [5]

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Yes. So I think that the main improvement will come from -- in the second quarter will come from more revenue from service. But then we will finalize some of the projects that has a lower margin, and we will start to execute the projects or we'll start to get revenue from the projects with better margins. So you have both effects. I would say the effect from the switch in projects comes a little bit later on in the year where we start to get more revenue from a different set of projects.

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Magnus Kruber, UBS Investment Bank, Research Division - Associate Director and Research Analyst [6]

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Perfect. That's great. And secondly, on the Mining orders. And clearly, you are coming off a very high base last year. But if you focus on the underlying, would you say that the 10% underlying growth you saw in Q1 is fairly reflecting the market activity we see at the moment?

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [7]

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Yes. It reflects market activities, but we compare underlying already with a very, very strong quarter 1 2018. When we look into which kind of orders we were awarded with, more or less, all are related with productivity improvement. There is a big, big demand out in the mining customer field where they have a high level of free cash flow, not to forget that. So that's quite a healthy customer group. To help them to tackle that what they have sustainability goals as well as to enable them to be more agile on commodity price changes, which means no matter where the commodity prices go, that they can play or reduce their cost base relatively quick, and we are experts in that.

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Magnus Kruber, UBS Investment Bank, Research Division - Associate Director and Research Analyst [8]

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Perfect. And finally, another one on Mining. Did you have any unannounced sizable orders in Q2 last year that we should be mindful of, if we could have a little bit of the comparables there into Q2?

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [9]

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Oh, now you got me. We have to look. No, I don't think so. No.

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Magnus Kruber, UBS Investment Bank, Research Division - Associate Director and Research Analyst [10]

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Okay. Perfect. And finally, Lars, on the net working capital, you said you expect to reach below 10% by year-end. Or did I get that wrong?

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [11]

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Yes.

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Operator [12]

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Next question is from Kristian Johansen from Danske Bank.

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Kristian Tornøe Johansen, Danske Bank Markets Equity Research - Senior Analyst [13]

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So last year, we talked about this, a delay in conversion from backlog to revenue, and now you only booked for the same growth on the topline in Q1. Is there an element of that as well in the quarter? And on the same line, if you look out in the coming quarters in terms of your guidance as well, what's the risk of this happening again?

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [14]

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At first, it's not a risk. The -- you have to see that we always have in that kind of business, a lower start of the year if it comes to revenue. That's always the case because the fourth quarter is normally quite strong. The second half is actually significantly stronger than the first half. Where does it come from? There's, of course, an element that the customers have a budget for a project, and they would like to finalize it in a year, which then means, for the following order, there's a little bit lower or there's a lower activity regarding the revenue part. So the second quarter will be better, the third quarter will be better and then the fourth most likely then would again be a very strong quarter. But in our business, you see it that the second half normally is quite stronger in the revenue than in the first half.

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [15]

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And just to your question around whether the delay we saw in the third quarter last year will impact this year, when we made the guidance, you could see that a lower percentage of our backlog converts into revenue this year than if you take the same number from the previous year. So we already took this effect into the guidance. So the guidance is based on this we talked about at the end of last year.

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Kristian Tornøe Johansen, Danske Bank Markets Equity Research - Senior Analyst [16]

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Fair enough. Then my second question, on mining services. Now you just indicated that on cement services, we should expect the larger part of the mix being system and services. How does that look for Mining? Again, on Slide 8, the service revenue graph shows a declining trend. So what should we expect for mining services in the coming quarters?

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [17]

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I mean if you compare the order intake from service in both industries, you can actually see revenue is running somewhat below. And as we move into the year, we do see that this gap will be closed. So revenue from service will come up in both industries.

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Kristian Tornøe Johansen, Danske Bank Markets Equity Research - Senior Analyst [18]

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And will that happen in Q2 as well for Mining?

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [19]

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We do expect that the revenue from service will come up in both industries in the second quarter.

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Kristian Tornøe Johansen, Danske Bank Markets Equity Research - Senior Analyst [20]

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All right. Excellent. And then my last question in terms of your guidance on net working capital to sales being below 10% towards the end of the year, how is the path towards that on a quarterly basis going to look? Is it going to be sort of just steady quarterly improvement? Or do you expect the majority of the improvement towards the end of the year?

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [21]

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The timing of that improvement is quite difficult to say because it, of course, relates to exactly when the milestones kick in. The one thing that is really, what you can say, putting an upwards pressure on our working capital right now is the fact that we're not converting enough into revenue to really get the working capital down. As we start to get more momentum behind our service business, we will start to reduce the inventory that has been built to satisfy these service orders. So it'll come throughout the year. Whether that comes in the second, third or fourth quarter is very difficult to predict, but it will come in line with getting momentum behind the revenue from service.

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [22]

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We can actually make a kind of a little math on it. If we take the midpoint of the revenue guidance, then we are on DKK 20 billion. Our net working capital is DKK 2.2 billion at the moment. And then you can see that it's a DKK 200-ish million reduction over the year if I only take the midpoint of the guidance in revenue.

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Operator [23]

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Next question is from Andrew Wilson with JPMorgan.

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Andrew J. Wilson, JP Morgan Chase & Co, Research Division - Analyst [24]

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I just have, hopefully, 3 kind of quick ones. Thomas, you don't see a lot of confidence in terms of the revenue phasing as you go through the balance of the year and kind of the expectation as usual that we'll see a stronger Q3 and Q4 particularly. To the degree that you're kind of prepared to comment on this, would we expect the margin trajectory to be similarly weighted to the Q3 and the Q4 given that greater, higher volume should be good for the absorption?

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [25]

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Yes. That is -- as more revenue as higher the profitability is. We showed in several quarter 4 where we got quite high revenue in, in these days that we have a fantastic good leverage especially out of the Mining business. So with the higher revenue in the second quarter and seasonally listed in the fourth quarter especially, there we then generate, of course, the highest EBITA profitability. Cost in our business, with the bigger part of bigger project business in it, the gross margin development is one thing, the product mix is another, but the revenue versus cost, and we are very good in keeping costs under control and in line and managed, that, of course, delivers on the bottom line quite a significant improvement.

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Andrew J. Wilson, JP Morgan Chase & Co, Research Division - Analyst [26]

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And kind of I guess following on from that and specifically in Cement. I think at the end of last year, you introduced various measures within Cement to try and, I guess, take actions on the cost base in Cement to some degree. Will that similarly be a support towards the end of the year? Or is all of that cost saving already kind of in place as we talk now?

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [27]

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To that effect -- so that wasn't very much a headcount exercise where we took people out. They are all out of -- they have already left the business. So the impact is fully in. And as you can see, the gross margin is already higher than what it was towards the end of the year. And as we start to improve the project mix, so executing better projects throughout the year, that will help us improve the margin in Cement.

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [28]

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We should not forget that we took the people out and reduced the amount of available labor to quote especially big projects in a time where we were awarded with big projects. Why did we do that in such a time? The reason was that we are not forced to take low-margin orders with high risk simply to walk out. And you would be surprised of how many orders we walk out nowadays.

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Andrew J. Wilson, JP Morgan Chase & Co, Research Division - Analyst [29]

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And maybe if I can just follow up on that point. You mentioned a couple of times that you expect the margins on the projects coming through the income statement to be better for the balance of the year. Is that any comment at all on the market? Or is that purely the coincidence of the contracts for the projects you'd be delivering just happened to be higher margin? Is that any sort of comment at all on the market? Or is it just coincidence?

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [30]

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All improvement in the probability in Cement is related to own internal FLSmidth activities. There is absolutely 0 support whatsoever in the market. When you look into the amount of announced orders, you see that we, as FLSmidth are, yes, quite, quite strong, to make it diplomatic, in that market. That's a fact. Why is that the case? We have a very competitive offering. We have a very good technology. Our productivity improvement in Cement really gets traction there. But at the same time, the amount of larger orders in the world market is very, very low for premium offerings. That gives this mix in the market with a high pricing pressure. What is not deteriorating, not improving, it stays as it is now for minimum 2 years.

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Andrew J. Wilson, JP Morgan Chase & Co, Research Division - Analyst [31]

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Okay. And if I can just ask one final one. Just switching back on to the Mining side, you touched on it just towards the end the development of the wear parts business, which sounds like it's going very well. Can you just talk about where you are versus your expectations on that? And also if you've basically seen anything in the market which has come as a surprise as you've been building that market and for that product TAM that sits there?

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [32]

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We have -- we promised the market that we will have more than 10% of the aftermarket out of wear parts at the end of 2019. We will keep that promise. We will fulfill that. What do we see in that market? We see in the market that customers in that what they buy, it is actually not that they buy bits and pieces, they buy performance, which makes it for OEM suppliers, for original, branded, international suppliers actually, not easier but more likely to get orders. It is not purely about the price. It is about performance versus price. And that, of course, is, for premium suppliers, quite a good development.

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Operator [33]

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Next question is from Claus Almer from Nordea.

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Claus Almer Nielsen, Nordea Markets, Research Division - Senior Analyst of Capital Goods and IT [34]

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Yes, also 2 questions from my side. Thomas, you mentioned early on about the order intake within Mining. If I understood, you said the underlying order intake would be around a 10% growth for 2019. Was that correctly understood?

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [35]

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Yes. It's correctly understood. And when you look into the figures, we can clearly say that we had an order intake of DKK 3 billion in the quarter, DKK 3 billion -- I have to be correct as an engineer, DKK 3.008 billion. Last year, we had a DKK 2.739 billion in the base orders. So we have a growth of 10% on the base orders. What makes the Mining order intake look 10% lower than last year is the nonrepeat of a very large order, what we were awarded at the beginning of last year.

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Claus Almer Nielsen, Nordea Markets, Research Division - Senior Analyst of Capital Goods and IT [36]

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Yes, that I know. It was more about the full year 2019, did you mention that you should expect an underlying order intake growth for Mining in 2019 over 2018 of 10%?

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [37]

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Yes. In 2019 versus 2018 for the underlying, we expect to grow, and we expect a single-digit growth throughout the year and more in the higher range of the single-digit growth.

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Claus Almer Nielsen, Nordea Markets, Research Division - Senior Analyst of Capital Goods and IT [38]

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So that's actually slightly more positive than what you have mentioned in past calls, right?

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [39]

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The -- no. I would not say so. We were always -- with my conservative approach and communication, the outlook for Mining is good. It is not booming and super great, but it's definitely not stable and flattish. It is a good outlook. The demand for productivity improvement investment is good. Our customers are quite cash rich, and we see a big, big appetite to get their operations more agile versus global uncertainty, global economy uncertainty, which means to enable them to get their cost base quicker down when the commodity prices and maybe capacities would go down. And that is where we are strong in.

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Claus Almer Nielsen, Nordea Markets, Research Division - Senior Analyst of Capital Goods and IT [40]

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Okay. Then just my next question, the working capital target of below 10% in 2019, does that include any supply chain financing effect? Or was it purely optimization of the current business?

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [41]

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So if I just look at the supply chain financing, that is expected to be sort of like a constant percentage of our payables. So if our payables goes up, then our supply chain financing activities will go up. And if I look at the first quarter alone, we had a DKK 2 million change in our supply chain finance program. So it is really a small impact in a quarter like this now that it's up and running. So it will have an impact in the full year numbers because we expect to have more activity towards the year-end.

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Claus Almer Nielsen, Nordea Markets, Research Division - Senior Analyst of Capital Goods and IT [42]

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Yes, but not as a percentage of revenue.

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [43]

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Sorry, once again?

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Claus Almer Nielsen, Nordea Markets, Research Division - Senior Analyst of Capital Goods and IT [44]

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Which is also how we -- not as a percentage of revenue, which is also how we calculate the working capital?

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [45]

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Yes. So no, it's a percentage of the payable.

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Operator [46]

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Next question is from Robert Davies with Morgan Stanley.

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Robert John Davies, Morgan Stanley, Research Division - Equity Analyst [47]

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Just a couple. One was just on the overall, I guess, customer behavior within Mining. You've obviously given us the mix picture of what's going on, on the service side with the need to sort of catch up. And some of your comments seemed marginally more kind of conservative than maybe some of the other mining names that we've heard from, from the last couple of weeks. If you could just flesh out just what you're seeing in terms of replacement versus expansion on CapEx at the moment. Where are customers that you are talking to spending their money when they call you up? What is the main focus on their expenses at the moment?

And then the second one was just really around the Cement business. And just if you could kind of contextualize I guess some of the differences in profitability between those larger projects and some of the more base business that you see. Just to give us a sense of the variability you can get in profitability from kind of a large versus kind of base or small project, that would be very helpful.

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [48]

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First, if it comes to Mining, we don't think that we are different in the message to the market because we reflect that what the customers tell us and what the customers demand. It's not our own idea. It's actually we are nothing else like a loudspeaker of all our mining customers towards you guys when we talk about these business outlooks and trends.

When you look into the OpEx spend in Mining, the OpEx spend in Mining is more or less completely related with productivity improvement. The discussion what we have with customers is not to supply 500 bits and pieces or wait or a 1-hour service. The discussion with customers is to make a kind of due diligence and to look into how can we help the customer to earn more money, and that is productivity improvement. And that contains now more and more sustainability issues too, to be honest, education of maintenance people and operators at the mine site or taking over of more services on a mine site from the customer directly into us.

So from that point of view, the behavior in the mining industry in the last few years actually didn't change. What changed is the bigger appetite of the mining customers in the last 1, 1.5 years to make their companies, their operations more agile versus a volatile global economy. And that is where we earn money on, and that trend looks good.

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [49]

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To the margins, so there are -- the 2 things you should think about when you think about our margins in the Cement business, there is the margin we get from our service business. And we'll not give you the numbers, but I'll just give you a hint on where you can find them. In the old customer service division that we gave you the margins for this business, and the cement aftermarket is slightly below the average of customer service divisions back then. And that margin is actually fairly stable in our business. So customer service revenue comes with a fairly stable high margin.

Then when we go to the capital part, this is really where you have some volatility in between the projects. We have some projects where we actually get okay margins where we have a technology that is significantly better than competition and where the customers are focused on getting premium offers. There, we can really do our value-based selling, and that gives us a better margin.

We also have some projects that are being executed with low margin because they have been under pressure. And as Thomas mentioned, one of the reasons why we took -- reduced our engineering base towards the end of last year was that we wanted to deselect the projects with the lowest margin, and that is really what will help us underpin the margin in the capital part of Cement.

We're not giving you the numbers because we're not giving you all these details, but I would say the underlying improvements comes from internal measures as well as from deselecting the really low-margin projects.

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Robert John Davies, Morgan Stanley, Research Division - Equity Analyst [50]

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That's great. Maybe just one follow-up. Just around the sort of I guess the thought process of the miners at the moment. You mentioned sort of productivity and the need to sort of improve the cash of the miners themselves. How does that sort of fit in with your digital offering? I mean how receptive are customers to the digitalization theme in general? Is that something that you have to sort of push and explain to the customers? Are they relatively receptive as long as they sort of deliver on results? How does that fit it? I know you've got a few, I guess, developing technologies of other things like Rapid Oxidative Leach and/or dry stack tailings sort of kind of come along, which is sort of separate to digital. Maybe just one comment on digital and one on just some of your other kind of technology developments, how are they progressing, that will be great.

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [51]

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We are coming out of the longest mining recession measured since 1904, in 2017 for us or at the industry maybe end of 2017, beginning of 2018. We have a significant higher visibility on sustainability. And yes, we have to say push. Tailings dam broken in Brazil gives another element into it. So there's a lot what happens towards our mining customers to improve their operations and their setups. Only by improving mechanical offerings is not enough to fulfill that what is actually demanded out of the society. So digital is an essential part of it.

Our customers are more than 30 years in the mining industry. And I never saw the mining industry so open for innovation and new developments as we have it nowadays based on that what I just said. So digital is an essential part of it. New innovations is an essential part of it. It's not only the rapid oxidative leaching, it's the dry stack tailings, it's our EcoTails, it's the way how we can help customers to reduce safety pressure, sustainability pressure and so on. There's a lot more than only going in and to refurbish a SAG mill. And that makes us -- because this is really the playground for the premium suppliers in the world. And that makes us confident in the outlook for the mining industry.

But of course, we are not blind, and our customers are not blind. As I said, we are loudspeaker of them in that the global economy and how that develops, where the mining industry supplies into it is very important, too. But when you look into the industry mining, there is a high cash available, there is a big demand for innovation, there's openness for digitalization, that gives that good outlook for the mining industry. But I have to say when we talk about good, we are not talking here each quarter 100% growth or a huge boom, it is simply better than before. And where the industry goes is actually and fairly fast steps to have a better setup in that what they operate, and we earn money on that.

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Operator [52]

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The next question is from Mikael Petersen from SEB.

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Mikael Petersen, SEB, Research Division - Analyst [53]

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I have a question for Lars. You mentioned earlier you had done initiatives in Cement to bring up the profitability. Are those the same as you mentioned in Q4, like in terms of reducing headcount? Or have you done additional measures here in the first quarter to improve the profitability further than you just -- what you just mentioned in Q4?

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [54]

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No. So no further actions have been implemented. So the run rate effect from what we had announced after Q3 last year are in. And what will really drive the needle in the rest of the year is the change in projects. So the projects we execute now have lower margins than what we'll execute later on in the year. We have not planned any new activities since the announcement after the quarter 3.

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Operator [55]

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Next question is from Klaus Kehl from Nykredit Markets.

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Klaus Kehl, Nykredit Realkredit A/S, Research Division - Chief Analyst [56]

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I have couple of questions. First of all, if we look at the discontinued operations on Slide 16, just to be sure, what you're saying is that you have had a negative cash flow of DKK 72 million here in Q1, and you expect around DKK 100 million negatives for '19 and '20. So that means that the remainder of -- yes, for the coming 2 years, you more or less expect a negative free cash flow of just DKK 30 million in this division? Is this correctly understood?

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [57]

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Sorry. Then I didn't say it clearly. We had DKK 70 million in the first quarter, and we expect a further DKK 100 million as we finalize these projects. And that number comes from the DKK 247 million of provisions less the working capital balance of DKK 153 million. So the difference between these 2 is DKK 100 million that we expect to pay out over the remainder of '19 and '20.

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Klaus Kehl, Nykredit Realkredit A/S, Research Division - Chief Analyst [58]

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Okay. So an additional DKK 100 million.

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [59]

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Yes.

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Klaus Kehl, Nykredit Realkredit A/S, Research Division - Chief Analyst [60]

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Okay. Excellent. Right. And then secondly, you mentioned a couple of times that service revenues were low in Q1. Just out of curiosity, why is that?

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [61]

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There is, of course -- in that business where we are where service activity on one site is that what we get as direct service orders. And in a big package, what we get with larger in equipment orders. There is lumpiness in it. We have quarters with a lot of work, and the service comes up, and quarters with a little bit less work. And we had a slow start in the year. Yes, it's seasonal. But without going too much in the details, I have to say in some areas it's weather conditions, to be honest. In some other areas, it's related to vacations. And in some other areas, it's related with strikes and people unrest on mining operations. That all plays in. And then you can have this fluctuation from one quarter to another how much revenue recognition you can realize. There is nothing special to be honest, but it comes out, of course, more negative when you're at the same time have quite a big share out of the Cement business, which is lower in profitability than mining based on the technology setup, as well as having then some larger project orders out of Cement with the lower margin in the revenue recognition.

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Klaus Kehl, Nykredit Realkredit A/S, Research Division - Chief Analyst [62]

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Okay. Okay, got it. And then my final question, dry stack tailing technology, you mentioned in the report that you are seeing increased numbers of inquiries. But could you elaborate a bit on that? Is it one inquiry compared to 0 last year? Or is it 10 compared to one? Or it's just in order to get a feeling for how interested the clients are in this technology now.

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [63]

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It is actually -- what is the background? Or what is the technology about? The technology is about to deal with tailings instead of pumping it into a tailings pond with a tailings dam and to recover water. That is what dry stack tailings is about. And you need several areas of expertise, and we are the only supplier having all areas of expertise in the house. No matter if it's the material handling, if it's the thickening, if it's the filtration, if it's the pumps, the cyclones, the project, we have it. That makes us as a very good choice for dry stack tailing.

The amount of inquiries, the feasibility studies and so on is very, very high. We know that. And the trigger point was, as sad as the news was and the activity, of course, the second time a tailings dam broken in Brazil, this time with quite a lot of killed people.

And there are, in all countries or more or less all countries, questions on the mining industry, how is it with the tailings dams. And one thing is to stabilize these dams. The other part is how to avoid to raise them or to have tailings dams at all. And we have with a mining customer actually innovated things like EcoTails where we can offer sophisticated solution customer by customer to avoid tailings dams at all as well as to reduce the size of tailings dams as well as to recover quite a lot of water.

And that all with the sustainability activity has a very high interest in the market at the moment. And that will go on. We see that increasing. We don't see that decreasing. Then I guess the question will be then when does it come into order intake and into revenue. No matter that the mining industry really opened up and getting more innovative and so on, it takes, based on risks, what you have in the business and the involvement of government and so on for approvals, it always takes several years until things really drop in, in a big scale.

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Operator [64]

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Next question is from Magnus Kruber from UBS.

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Magnus Kruber, UBS Investment Bank, Research Division - Associate Director and Research Analyst [65]

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Yes, some clarifications. Just on the backlog margins in Cement. And I know we will see an improving margin mix on the project deliveries through the rest of the year. But if you look at the overall project backlog, would you say that we past the worst point in terms of project margin mix now? Or could it sort of deteriorate here just based on what you have in the...

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [66]

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I mean this move from quarter-to-quarter, and we see that the projects we have in the backlog are stronger than what we had a year ago. So we have executed some of the projects with the lower margins. So what we can see in the backlog is that it's improving, but it's not a dramatic improvement. And a lot of the projects we execute, we execute them over a long period of time. So the change will not come in one quarter. We see a gradual shift towards better-margin projects over the year.

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Magnus Kruber, UBS Investment Bank, Research Division - Associate Director and Research Analyst [67]

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I guess the final one, on the headcount exercise as you said, did you get the full run rate exercise -- full run rate impact already from 1st of Jan?

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Lars Vestergaard, FLSmidth & Co. A/S - Group Executive VP & CFO [68]

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Yes.

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Operator [69]

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And next question is from [Julia Cohen] from Goldman Sachs.

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Unidentified Analyst, [70]

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This is [Julia] from Goldman. I just wanted to know real quickly, you mentioned that you had a rather slower start to the year. Could you give us some details on how this developed throughout the month in the first quarter and maybe even how the second quarter started with April? Have you there already seen some increased activity in service?

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [71]

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We have a seasonal, slow start in the year. That is part of the nature of our business where it's a little bit too slow from our point of view versus the order backlog what we have. We have the highest order backlog since 2013 with this more than DKK 17 billion, which is quite big. So there is quite a lot of confidence. It's really comfortable confidence regarding the yearly guidance in the revenue as well as in the EBITA.

When we come -- when we look into the months, I can give you, by geography, more information. But if you take Australia where you have a big vacation season around Christmas, which goes very much into the January, of course, January is a low month, but then March is a little bit better. In other areas, you have some other religious days or in China, the Chinese New Year Day, that all has a significant impact. We see that immediately in the figures.

But from a global point of view, it is normal in our business that we have in the third month of a quarter, more activities, and that is related that our customers adjust on quarterly results too, and they would like to get things out of the door and done before quarter end too, which is for us, as a supplier, always not difficult but challenging to manage from time to time, especially if it comes toward December.

Then to the quarters throughout the year, we know, and that is part of our business too, that the second half of the year is stronger in revenue recognition than the first half of the year. But to say that each quarter is better than the quarter before is a little bit, yes, too general because you can have -- when the milestone slip over or slip into a quarter, then you can have extremely better revenue or extremely lower revenue than you normally would have based on 2 or 3 day slippage.

I have a good example for that actually out of the order intake and service. We were awarded maintenance -- larger maintenance orders at the end -- the very, very end of March in 2018, which delivered us a fantastic good order intake growth for service in the first quarter 2018 where we said this was extraordinary high. So that can happen. And we are brutal on if that is the March end, then March end, and that's it and nothing goes into the figures any longer. We are very automated and very strict and disciplined in that.

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Operator [72]

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And that was our final question for today. So I'll hand the call back to the speakers for any closing comments.

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Thomas Schulz, FLSmidth & Co. A/S - Group CEO [73]

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Thanks a lot for the questions. Thanks a lot for the contribution, and see you soon. Safe trip and living wherever you are. Goodbye.

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Operator [74]

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And this now concludes your conference call. Thank you all for attending. You may now disconnect your lines.