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Edited Transcript of KNIN.S earnings conference call or presentation 20-Apr-17 12:00pm GMT

Thomson Reuters StreetEvents

Q1 2017 Kuehne und Nagel International AG Earnings Call

Schindellegi Apr 22, 2017 (Thomson StreetEvents) -- Edited Transcript of Kuehne und Nagel International AG earnings conference call or presentation Thursday, April 20, 2017 at 12:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Detlef A. Trefzger

Kuehne + Nagel International AG - Chairman of Management Board and CEO

* Markus Blanka-Graff

Kuehne + Nagel International AG - CFO and Member of the Management Board

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Conference Call Participants

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* Andrew Charles Fincher

JP Morgan Chase & Co, Research Division - Analyst

* Damian Brewer

RBC Capital Markets, LLC, Research Division - Analyst

* Daniel Röska

* David Griffith Ross

Stifel, Nicolaus & Company, Incorporated, Research Division - Director and Transportation Analyst

* David Kerstens

Jefferies LLC, Research Division - Equity Analyst

* David Pearce Campbell

Thompson, Davis & Company, Inc. - Research Analyst

* Dominic Edridge

UBS Investment Bank, Research Division - Executive Director and Analyst

* Peter Rothausen

Danske Bank Markets Equity Research - Senior Analyst

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Presentation

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Operator [1]

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Good afternoon, ladies and gentlemen, and welcome to the Kuehne + Nagel 1Q '17 Results Analyst Call, hosted by Detlef Trefzger, CEO; and Markus Blanka-Graff, CFO. My name is Simone, and I will be your coordinator for today's conference. (Operator Instructions)

I am now handing you over to Detlef Trefzger to begin today's conference. Please go ahead.

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [2]

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Thanks, Simone. Good morning, good day and good afternoon to all of you. Welcome to the Analyst Conference Call on the First Quarter 2017 Results of Kuehne + Nagel International AG. Markus Blanka-Graff, left of me, and I will lead you through the slide deck published earlier today.

Let's get started on Slide 4 with the highlights of quarter 1 2017. With solid consumer confidence globally and a strong consumption, we have seen trade growth in quarter 1. We leveraged that momentum and our volume growth in Q1 2017 accelerated in sea and airfreight significantly. We are confident that the high volumes and new business is won will form the basis for further performance increases in the second semester this year.

In total, our gross profit increased by 3.5% and the earnings for the period by 1.3% operationally, excluding a positive one-off impact in quarter 1 2016, which we will explain later.

In seafreight, we increased our market share significantly, 85,000 TEUs more transported or 9% versus previous years. And as anticipated end of last year, the stabilization of the margins with the gross profit per TEU of CHF 328.

In airfreight, our market share also increased significantly, 47,000 tons transported more, or 15.5% versus previous year. At the same time, we maintained our strong conversion rate at around 30%.

Overland showed a very strong performance in the European networks, but not only as well as in -- with full truckloads and intermodal businesses.

And in contract logistics, our performance increased due to the strong growth of our scalable industry-specific solutions and more than 100 new projects that we won and implemented in 2016.

If we move on, on Page 5, you will see that the overall result had a strong foreign exchange or currency effect in quarter 1. CHF 42 million of foreign exchange impact in gross profit and CHF 4 million foreign exchange effect in EBIT negatively impacted our total figures. Not taking into account the one-off impact pertaining to a profit of sale of real estate in 2016, as mentioned earlier, the nominal EBIT has been identical in 2017 quarter 1 with CHF 209 million. In total, we had a very strong start into 2017.

Now let's move through the details of the business units. Let me start with the highlights of seafreight in quarter 1 2017 on Page 6. As mentioned already twice, strong volume growth, 9% growth, clearly outperforming market growth and 85,000 TEU more transported in our networks. The margin stabilized, and our conversion rate was approximately 28% remained industry leading.

Let me lead you through the details of the seafreight story on Page 7. How did seafreight really perform? As you know, the seafreight market changed already summer last year. We mentioned that in our Q3 2016 call and the annual results review for 2016. The continued margin pressure showed the expected effects in our gross profit, EBITDA and EBIT versus previous years, and that is what you see on the left side of the columns shown here. Therefore, we started to concentrate on strong volume growth already end of last year or summer, autumn last year, and we were able to grow double the market. With a market growth of 4%, our 9% market growth clearly showed that we got traction.

For the first time ever in quarter 1, we exceeded 1 million TEU, and we were able to show the strong volume growth due to our customer information system called KN Login. We offer full visibility on shipment, order and SKU level, globally on one platform, and that attracts more and more customers to drive their seafreight supply chains. Which products did we grow with? FCL for sure, that's our core business. But with the rates increasing again, we saw strong growth in LCL, but also in reefer.

Where did we grow? We grew in the European exports to Asia and North America; the Asian exports to North America and Europe as well as intra-Asia; and the North American exports to Europe and Asia. So in a nutshell, we grew, we saw strong volume growth on all major trades.

And as I have already said, with rates stabilizing and being less volatile and sustainable margins coming back, hopefully, end of quarter 2, we have a broader volume base, which will enable us to show sustainable results in the second semester 2017.

We continue with airfreight. Highlights of airfreight quarter 1 2017 on Page 8. 16% volume growth. Ladies and gentlemen, we haven't seen such a strong volume growth since the financial crisis in the market. Stable margins, especially if you compared the margins that we have seen, which were under pressure in quarter 4 2016, and we maintained a leading conversion rate of 30%.

Also here, like in seafreight, the strong volume growth has been the right answer to the margin pressure that we started to see October, November last year, and as I said before, now stabilizing in quarter 1 versus quarter 4 2016. The volume effect totally offset the margin effect and the cost effect. So in total, we showed a stable result, taking into account that also in airfreight, we took a hit from the currency effects in our P&L quarter 1.

Over 350,000 export tons shipped in the first quarter 2017, as said, never seen again since the financial crisis. Where did we grow? Strong export business on all major trades, especially Europe to Asia and Northern America; Asia to North America and Europe, intra-Asia also in airfreight; and North America to Asia and Europe. We see a strong demand for our perishable products and also for our industry solutions, especially pharma and e-commerce.

We continue on Page 10 with the highlights of the overland business. The overland business unit continues to expand. Strong net turnover growth in constant currency is up 7%, and an operational performance that in constant currency is doubled. The details of the business unit you will find -- overland you will find on Page 11. And in a nutshell, the strategic approach for overland has been clearly confirmed by Q1 2017 results. Growth significantly above the market. We expect the market to grow 2% to 3%. With our 6.7% or 7%, we clearly outperformed the market. Strong network traffic performance in Europe. An expansion at full truckloads and intermodal business especially in North America and the successful implementation of solutions all through the year. We named pharma but we have other solutions that we have placed in the market successfully. And we clearly outperformed previous years' quarter 1 results.

And last but not least, contract logistics, highlights of the quarter 1 2017 results. Also here, the strategic approach of scaling industry-specific solutions leads to EBIT growth of 15% in constant currencies. The details you will find on Page 13.

More than 100 projects implemented in 2016 as well as new projects and solutions sold to our customers led to a strong gross profit growth, CHF 54 million more gross profit. Our market approach of scaling solutions, industry-specific solutions, proves to be successful. And our growth has been especially -- has been very strong especially in e-commerce and pharma.

Our strong EBIT improvement shows the right development over the last 2 quarter 1s in 2016 and 2015.

And here, I would like to reiterate my statement made before, the operational performance is much stronger than shown here in the figures versus previous year, given the positive one-time effect of a profit gained through real estate sales of CHF 8 million in quarter 1 2016.

And with these messages on the 4 business units and the overall performance, I hand over to Markus to lead you through the details of our financial performance.

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Markus Blanka-Graff, Kuehne + Nagel International AG - CFO and Member of the Management Board [3]

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Thank you, Detlef. Also, welcome from my side. And moving swiftly on to Page #15. All of you know, income statement, total group, on a quarterly basis, one of my preferred slides for the overall analysis.

You see, in quarter 1 2017, the group has achieved CHF 1.648 billion gross profit, which is CHF 55 million more than in the quarter 1 2016. These CHF 55 million, you have seen that in the details of the business units, they come from airfreight, overland and contract logistics. In seafreight, we have a lower number on gross profit. It has reduced by CHF 11 million. To be very clear on that, also what Detlef has reiterated, we are very -- we were very clear on that in the communication already that fourth quarter 2016, that the first quarter is going to have margin pressures in seafreight, which came through the back end of year 2016. We do also expect that pressure, obviously, to maintain most likely in a good part of the second quarter.

Gross profit increase in airfreight and absolute terms in overland and contract logistics. When we move down further to the EBITDA of the group, you will see we have achieved CHF 257 million compared to CHF 259 million in the comparable time in 2016, which is CHF 2 million less, considering we have a 2% negative foreign exchange rate impact to the demand, and we have an CHF 8 million impact of sales from real estate in 2016. Taking that into consideration, obviously, we do have a stable, slightly increase on EBITDA or approximately plus CHF 8 million. That is a considerable number.

You go down to the EBT number, earnings before tax, and you have seen what we have communicated and published today in the morning, CHF 240 million, which again, you take what I just said into consideration on foreign exchange and real estate comparable, is an increase of 1.3% compared to last year.

Foreign exchange, we haven't talked about it for a while. Last year -- on the other hand, we know that Brexit and due to pound's weakness has started by mid-2016. So the comparables with the first quarter '16 are still based on the British pound of GBP 1.4, you can see that on the left bottom box, GBP 1.4 versus the Swiss francs, which is today or which is in that publication, GBP 1.25. I have corrected myself today. It's obviously a bit up due to the latest news on the U.K. election. We will see how sustainable that's going to be.

Market share gains. The important message again, we are growing in volume quite significantly to accommodate and have a solid base for the second half 2017. Growth to that pace comes at a price.

Page #16, there is a couple of consequences out of that growth. The first consequence you see on the line EBIT margin to next turnover. Our target is 5% or above. You've seen the first 3 months of 2017, we're coming with a 4.9% number. Not being picky, but 4.9% is below 5%. Let's -- look at the mathematics around this. This is impacted by increase of rates and increase of volume. So there you see a mathematical technical impact. We are very confident that over the year that mark is going to move above the 5% mark again.

Secondly, operational cash flow, second last line from the bottom, CHF 262 million compared to CHF 256 million. So operational cash flow has increased compared to last year. Very important, we are a very sound cash-generating operation.

Thirdly, return of capital employed. I have said that on numerous occasions, our current business mix and balance sheet structure will accommodate around 70% return on capital employed. We have today 68%. We came from 70% -- 69%-er number. For me, that is there the range where the current operation sits.

Cash and cash equivalents. Compared to last year, down by CHF 90 million. I will come back to this in a minute.

Page 17, balance sheet. I said growth and increase of rate needs to be financed. You see that very clearly. The balance sheet is expanding by approximately 4%, CHF 250 million. Where are the biggest moves? As expected, trade receivables and trade payables. That's logically and that is how I feel the balance sheet structure in itself has not changed fundamentally. Equity ratio is still around 35%.

Page 18. Cash flow. This is where everything happens. This is where you can see how growth is financed and how higher rates in sea and airfreight are impacting these numbers. You see operational cash flow, as I mentioned previously, CHF 262 million, CHF 6 million better than last year. Changes in working capital, this is where you see the growth. I'm, for once, happy about that number, because it shows our growth is on good foundation, and it's going to be sustainable.

Working capital development, Page #19. I have seen a couple of remarks already today going through the press. We are still within the corridor. To remind ourselves, the corridor is 3.5% to 4% working capital intensity. We are at 3.8%. You see clearly the CHF 176 million networking capital. You compare that, obviously, out of the balance sheet. This is where growth is financed through. DSO, slight increase, 2 days. That has also the technical background on this -- on the rate structure, but also customers become certainly increasingly demanding on payment terms. We know that, and we are obviously very diligent and stringent on our working capital management.

These are the highlights from an overall profit and loss statement perspective, balance sheet, cash flow and working capital development. And with that quick overview, I would like already to hand back to our operator, Simone, for further Q&A.

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Questions and Answers

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Operator [1]

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(Operator Instructions) At the moment, there are no questions.

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [2]

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Okay, if there are no more questions, Simone, I would like to thank all participants for joining in. In total, as said, we had a very strong start into 2017. Strong volume growth in both sea and airfreight, but also in gross profit improvements in overland and contract logistics. With the volume gained and the market share gains, we are well prepared for the second semester 2017. And we hope that you will join us for the Q2 call when we then give the next outlook for the remaining 6 months of 2017. Thanks for joining in. Bye-bye from Schindellegi...

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Operator [3]

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Sorry, sorry. There would be some questions now. Would that be okay to take these?

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [4]

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Sure. We are here to answer the question.

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Operator [5]

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Okay, perfect. So the first question comes from the line of David Ross from Stifel.

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David Griffith Ross, Stifel, Nicolaus & Company, Incorporated, Research Division - Director and Transportation Analyst [6]

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Well, a couple of things, to start off with airfreight, why do you think airfreight was so strong in 1Q? Because 4Q had a lot of that airfreight diversion from the Hanjin episode and some tech product launches around the holidays, but 1Q seemed to be strong through March. So why do you think that was strong? And did it continue into April?

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [7]

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Airfreight volumes are strong, and the market is strong as well as you've seen the 7% growth because the consumption is increasing. Overall consumption is increasing, and the spot levels locally are not sufficient enough. That would be our interpretation to cope with that consumer demand. So therefore, ad hoc shipments, fast deployment, replenishment is driving airfreight growth.

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David Griffith Ross, Stifel, Nicolaus & Company, Incorporated, Research Division - Director and Transportation Analyst [8]

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And is there a point at which you see that slowing? So when the inventory levels catch up to where the demand is and airfreight maybe slows in 2Q, 3Q? Or are your customers telling you to expect stronger airfreight for longer?

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [9]

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At the moment, we see no sign for a change in the market.

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David Griffith Ross, Stifel, Nicolaus & Company, Incorporated, Research Division - Director and Transportation Analyst [10]

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And then with respect to both air and ocean, what trade lanes are you seeing still the most rate pressure? Is Asia-Europe specifically worse than the transpac or the transatlantic? Can you just talk a little bit about the lane differences?

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [11]

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We always -- when we were talking about rate pressure, the main rate pressure has been, and that's seafreight, has been on Asia-Europe. That is the trade lane where we have seen the rate volatility as previously -- in the previous -- mentioned in the previous calls as well as the rate pressure. There is always pressure or there's always the equilibrium of supply and demand that needs to be found on all other trades. But Asia-Europe and Europe-Asia, these are the two trades where we have the main rate pressure, the rate volatility.

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David Griffith Ross, Stifel, Nicolaus & Company, Incorporated, Research Division - Director and Transportation Analyst [12]

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And on the airfreight side, because of the strong demand, is there upward pressure in rates there as well? Or is it more muted?

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [13]

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That's more muted, I would say. And also, we had less capacity in the market in Q4 with China exports than in previous years, and we were all a bit surprised by that. And just to the rate pressure and airfreight, for the time being, being in April now, I would say that has stabilized.

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Operator [14]

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The next question comes from the line of Daniel Röska from Bernstein.

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Daniel Röska, [15]

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Three questions, if I may. First one, on specialty logistics and possibly a bit more of a general nature. We've seen specialty logistics in the different business units in Kuehne. What are you doing to kind of scale the capabilities you have across the different business units, in terms of specialty logistics? Any organizational changes envisioned into that direction? Second question would then be, kind of, what would your guidance be on future potential bolt-on acquisitions, like we just saw in Turkey to, let's say, increase your footprint in specialty? And third, if you could please comment on your Alibaba MOU? And what's the word MOU exactly entails? And how you would see that deal impacting your business going forward?

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [16]

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Sure. So specialty logistics is our approach to sell solutions. And we cross sell all solutions across all business units. Wherever we see demand, we have a seamless supply chain offering, which is operated in the different business units, but is a one phase to the customer solution that we built. And that doesn't need any organizational changes. It's a marketing approach and it's an operational spend, like as we said, for pharma, for high-tech, for perishable, reefer, for all those specialty areas that we offer in the market. The Alibaba MOU consists of, first of all, we have been working with Alibaba for couple of years. With our KN FreightNet solutions, we have been on the eCommerce platform of Alibaba already for almost 2 years. Now we extend that partnership to allow and support Alibaba's international sourcing and distribution processes with setups dedicated to Alibaba in the face of e-commerce fulfillment.

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Daniel Röska, [17]

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Okay. And that means that it does give you a little bit more exposure to the China markets. And how would you generally think about Kuehne + Nagel and more participation in the growth out of Far East?

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [18]

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We -- Far East is one of our growth markets. Not only Far East and China specifically, but also India and other markets in Asia. Even Japan being a mature market shows a lot of interesting growth momentum, and we have a growth strategy for all those countries. And yes, our exposure, hopefully will increase, but I wouldn't call it exposure. It is market share, and it is participating in growth momentum in Asia. The third question, Daniel, has been related to bolt-on acquisitions. We always stated that we are looking for competence and footprint in our, what you call, specialty logistics, our solution areas. And yes, that will continue with the right targets that we engage with.

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Operator [19]

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The next question comes from the line of Christopher Combe from Morgan (sic) [ JPMorgan ].

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Andrew Charles Fincher, JP Morgan Chase & Co, Research Division - Analyst [20]

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It's actually Andrew Fincher filling in for Chris. But just on underlying OpEx, expanding about 1% in air and 4% in sea in Q1, would this be a good proxy for the rest of the year?

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Markus Blanka-Graff, Kuehne + Nagel International AG - CFO and Member of the Management Board [21]

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4%, sorry, I didn't...

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Andrew Charles Fincher, JP Morgan Chase & Co, Research Division - Analyst [22]

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In sea. Just on underlying OpEx.

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Markus Blanka-Graff, Kuehne + Nagel International AG - CFO and Member of the Management Board [23]

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On underlying OpEx. Sorry, OpEx is the question. I think that is a run rate for the year, I agree. It's still depending on the seafreight growth around the 9% mark. If that further accelerates, that obviously could be higher OpEx coming with it. At the current pace, I would agree that, that is going to be a run rate going forward.

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Andrew Charles Fincher, JP Morgan Chase & Co, Research Division - Analyst [24]

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Okay, great. And you mentioned cash flow, you mentioned, one, capital. Just given that, how you are going to see about cash requirements going forward for the rest of the year?

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Markus Blanka-Graff, Kuehne + Nagel International AG - CFO and Member of the Management Board [25]

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Well, as I said, the majority is a function of the rate environment and the volume growth. So we were looking to accelerate that further, then it's going to have another impact on that working capital. I think we are currently -- when we maintain that level, we should be fine with demands we have put into that networking capital and demands today.

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Operator [26]

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The next question comes from the line of Peter Rothausen from Danske Capital.

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Peter Rothausen, Danske Bank Markets Equity Research - Senior Analyst [27]

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Can you help me a little bit understand the EBIT per TEU development in the first quarter? And with respect on the recovery pass that you see, you're also mentioning that you believe that we're going to see another quarter of continued pressure, so -- driven by the freight rate. So when is this fully flushed out? And why are you so confident that rates can't go up or that your profitability would come up? And what would you consider a normalized earnings rate to EBIT per TEU to look into?

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [28]

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Sure, Peter. So first of all, with CHF 328 per TEU quarter 1 2007 (sic) [ 2017 ], we were almost on the same level as previous quarters, quarter 4 2016, which showed CHF 332 per TEU. What is driving our margin? Or what is driving the margin pressure that we talk about? We are -- we have customer contracts, and many of those customer contracts either ended end of last year or in May, June this year. And with the customer contracts, we have volume commitments. While we were buying spot or short term in the market in the past at sustainable rates, since autumn last year, those rates have started to increase. And therefore, we see what we call margin pressure. So we buy at higher, we still make margin, obviously, and you see our strong conversion rate, but a lower margin than what we have seen last year. And with the customer contracts up for renewal and in negotiation at the moment, and the market rates being clearly up all over the market with all participants, we expect this to normalize again, whatever normalize means. We can't give guidance here, but you see the run rate on Slide 7, so a normalized rate of about CHF 340, CHF 350 should be expected for the second semester 2017. The transformational transition will take place in Q1 or took place in Q1. And as we can assess, we are not wizards, obviously, in Q2 as well.

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Peter Rothausen, Danske Bank Markets Equity Research - Senior Analyst [29]

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So if there's a risk that -- I guess, I'm trying to understand the risk that you would not come through with higher margins in the second half, would that come from another round of sec an hour, let's say, unexpected rate increases because of whatever time and supply-demand balance into the second half? Would that prompt a negative surprise? Or how can you help me understand the risk scenario in terms of the margin assumptions for the second half?

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [30]

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The risk scenario is less volume growth. We showed 9% volume growth. And you see, we are successful with our pricing in the market. We don't get those volume -- volumes because we are the cheap willy in the market. We are selling a solution. We have a compelling end-to-end story. And as I mentioned before, we have a customer information system that creates a certain benefit, this platform, KN Login, creates a very tempting benefit for our customer. And the whole package as such as the price value combination, that is attractive for our customers. And with that, we are very confident that not only growth but also sustainable margins can be reached in the second semester. Again, the transformation took place last quarter and this quarter, quarter 2.

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Peter Rothausen, Danske Bank Markets Equity Research - Senior Analyst [31]

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Okay. So basically, when rates are being renegotiated, that means that you are basically mitigated the near term from potential movements in rates externally, because you have firm contracts?

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [32]

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Indeed.

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Operator [33]

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The next question comes from the line of Dominic Edridge from UBS.

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Dominic Edridge, UBS Investment Bank, Research Division - Executive Director and Analyst [34]

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Just a couple for me. Firstly, I mean, obviously since the financial crisis, you alluded itself yourself, we've seen very slow global trade growth, including air and sea. Can you just say whether you are expecting things to normalize quite a bit in the second half? Are there sort of some factors you'd expect to come out? And do you think we are still in the sort of slightly in the 1.2x GDP, that kind that kind of level, or 1x GDP, that kind of level that we've been in for the last few years? And then the second question is on, just on the freight rate volatility. Obviously, you've very clearly illustrated the impact it's had on you. I know that last year, you were sort of looking into digitization, and I think you had those, maybe you are working more with people like CargoSphere on the digital side. Can you just say if there's much you can actually do to mitigate this kind of volatility to yourself? Or is it just one of the things you have to live through? Or one of the sort of slightly cyclical things that the freight forwarding industry just has to cope with?

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [35]

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Sure, Dominic. Let me answer the trade roles pattern first. The question is what is the new normal. I would assume there will be no new normal. There will be a certain ups and downs that we will see in the years to come. But in total, the consumer confidence, and that is what I started with in my little speech, the consumer confidence is high. And with the so-called middle-class becoming more and more consumers in Asia and having more to spend, and therefore, driving imports into Asia and the consumers in the established Western countries having enough money to spend and are still willing to invest, I would not see any rapid change or consolidation with regards to trade growth. Will we end up with 1x GDP growth or 2x GDP growth or something in between? We don't know. But as long as there is consumer confidence, I'm confident we will see trade growth. The trade pattern is changing and we have mentioned that before. So we have other trade lanes. Intra-Asia is soaring. There's a strong demand and a strong import-export business amongst all the Asian countries. And also the pattern of goods are changing. If you think about China, having a negative trade balance, unprecedented for many years in February, significantly soaring imports of 38%. That shows exactly that consumption is driving our global trade. So from there, I'm confident. And with a market share overall of 2.5%, Dominic, we will always find markets and niches and customers that are fond of our solutions. The second question with regard to freight volatility and digitalization, for me, these are 2 topics. Trade volatility, we have, and we mentioned that we have a data link and we interpret data and we start to forecast certain trade developments. That will also help us not to predict market rates, but it will help us to predict capacity demand. And with that prediction, we might be better anticipating supply and demand on certain routes or trade lanes. The other effect of digitalization is that our internal processes are becoming much more digitalized or automated. So areas interfacing with us on KN Login seamlessly on that platform. So we are connected with all seafreight carriers via KN Login, automatically. Or as we have mentioned last year, autumn last year, overland, CargoSphere where we apply -- transport, where we manage all the carriers in Europe on one platform. That helps to standardize and to simplify and also to increase productivity in our operations. All those effects help us to drive volume growth, be attractive with our solutions and also to drive productivity and cost efficiency. Does this answer your question?

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Dominic Edridge, UBS Investment Bank, Research Division - Executive Director and Analyst [36]

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Just sort of very brief follow-up, so you don't see digitalization maybe becoming more, as you say, being able to see things more in real time as helping you to mitigate some of these freight rates, sort of volatility that you see in the margin volatility? You are seeing it's just making it better, but is not going to get rid of that -- those risks.

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [37]

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Exactly. Exactly. Entrepreneurship also means -- always means that you have to take a risk. Otherwise, it would be a safe business.

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Operator [38]

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The next question comes from the line of Damian Brewer from Royal Bank Capital.

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Damian Brewer, RBC Capital Markets, LLC, Research Division - Analyst [39]

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Three questions for me as well, I guess. First of all, just within the quarter, we seem to be seeing periods from both the air carriers and the ocean carriers sort of squeeze the pie, and there's points of which they consider of make windfall profits. Can you just give us a feel of when you see those squeezes, what happens with your customer base? Is there more appreciation of your ability to access supply? Are they becoming willing to pay for it? If you can elaborate on that a little bit more. Secondly, following up on the sort of probably 2 of the previous questions, actually. Could you let us know how much of your business comes up the rate renegotiation within the next 3 to 4 months, given that something you alluded to as being important to normalizing the margin? And what else, generally, you are seen or seeing that gives you confidence that the GP per unit pressure we've seen in Q1 and Q4 last year will potentially reverse and start, meaning, you get much better leverage on the volume base you're already building? And then the very final question, if I can. It's just one thing, I'm just little bit mathematically confused on it and maybe you can help me with. I remember in the last 18 months or so, in one of these calls, you indicated that about 90% of your GP or so was based on value-added services rather than basic transport. So can you help me understand why in that case, the GP per TEU in ocean has been falling for the last few quarters by more than 10% year-on-year? Is there effectively some basic transport that's being provided for free and just the add-on service is where you make making your GP? Or is there something more complex in the mix happening there?

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [40]

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Daniel, many questions. Let me start with the last question. Value-add and the portion of the value-add in our overall portfolio. First of all, we never said 90%. It's 50-50. We have a commodity business or a network -- a general network business, and we have a solution business, and that most likely is a 50-50 split. The value -- we will never see a transport for nothing. So we always have a positive gross profit margin on each and every transport or shipment that we transport in our networks. The margin might be different, but also the cost associated to those shipments might be different because it's a pure automated transport, port-port without any drills and thrills that obviously will show a lower margin or an intra-Asian business that will also show a lower margin. At the same time, we see increasing demand. And with increasing rates, we see increasing demand for LCL shipments, which show, on a TEU basis, a much higher margin than the normal FCL, full container load. The confidence of the rate increases are based on the lower rate volatility we see in the market. What were we surprised with in the past, let's say, 12, 18 months? We were surprised with erratic rate changes, virtually, overnight. And this is gone. We are on a high level, on a relatively high or normalized level at the moment. And on that basis, it's -- we started -- or we have the ongoing renegotiations with our customers. Customers, our customers see those rates as well. And as you know, we are never alone, so we are bidding in a competitive environment. And giving, I can only repeat myself or repeat the answer, I guess, to Dominic, in a competitive environment, our solution is compelling. What we offer to our customers, the benefit beyond the pure transportation port-port is compelling to our customers. And the whole package, the whole solution as such, leads us to the belief that rates will normalize again. Our margins will normalize again, and that we are going to benefit from that effect in the second semester. How much of the business is going to be renewed with major shipments or the blue chip shippers? The majority is due May, June this year. So that's the normal annual rate negotiation that you have in the market. With small- and medium-sized customers, and you know that we have a big base of those customers, it depends on the contractual terms, and I can't really state the percentage of renewal ongoing. It's a permanent ongoing renewal of contracts and rates. Then your first question, I'm not sure that carriers are squeezing the pie. You know the results of the carriers, and I'm not sure that an empty pie can be squeezed, really, but that's maybe a philosophical answer to your question. The customers know about the market dynamics. They know about the capacity. They know about the consolidation in the seafreight industry, amongst the seafreight carriers. And reflecting this, at least our arguments are heard. And as you saw from our 85,000 TEU more shipped in our networks quarter 1 2017, we are giving the right message and the right solutions to our customers. I hope that answers your questions, Daniel.

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Operator [41]

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The next question comes from the line of David Campbell from Thompson, Davis & Company.

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David Pearce Campbell, Thompson, Davis & Company, Inc. - Research Analyst [42]

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I'm a little bit worried about the airfreight business in the last 6 months of this year. If the demand continues to exceed capacity growth in the industry, airlines are probably going to be raising rates in airfreight more than they have been, when the amount of freight moving out there is much more than it is now, just on the seasonal growth. So is that anything you're worried about? And if not, why not?

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [43]

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First of all, David, good to have you back in our analyst call. We missed you at the annual 2016 call, but welcome back, and good morning to you. We are not so worried about the airfreight dynamics. Because the passenger -- the increase in passenger capacity, passenger-related capacity is driving the whole capacity game in airfreight. And at the moment, you know that we have hundreds of airplanes moving into the market with a strong value capacity. A 777, as you know well, has a 35 tons belly capacity. With -- how many flights from the West Coast to Europe every day? I don't see demand exceeding in general supply of capacity. There might be temporary or solution-oriented capacity gaps, but this can be balanced. I rather -- I'm rather happy that -- or we are rather happy that the overall rate development that we are seeing in the last 3, 4 years, at least, are stabilizing at the moment on a level that is sustainable or seems to be sustainable for the next couple of quarters. I hope that answers your question.

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David Pearce Campbell, Thompson, Davis & Company, Inc. - Research Analyst [44]

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Well, I think it does. But I don't think passenger growth is as much as 15%. We're getting market growth of 10% to 15% in airfreight in March and April, so...

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [45]

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But David, let me interrupt you, sorry, but it's not about the growth, it's about the utilization of the planes at the moment. So the question is, are all those planes already in the market, fully utilized. Then your question would be justified, forgive me for that. But at the moment, we have an average utilization of the belly capacity of 60% or 70% maximum, on average. As I said on certain routes or for certain solutions, pharma, perishables, there might be a temporary capacity gap. We don't see that. At the moment, we manage that well, and we don't see that as a threat, and we are not worried that what your initial questions about the airfreight dynamics.

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David Pearce Campbell, Thompson, Davis & Company, Inc. - Research Analyst [46]

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No. I can see now, why not. Because 60% capacity, that gives you a lot of room for growth.

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Operator [47]

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The next question comes from the line of Lars Heindorff from SEB.

Okay, maybe he's not on the phone any longer.

Then the next question comes from the line of David Kerstens from Jefferies.

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David Kerstens, Jefferies LLC, Research Division - Equity Analyst [48]

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Two questions please. First of all, sorry for going back to the yield development. I understand your yields are relatively stable compared to the fourth quarter, whereas as far as I understood, container freight rates but also prices for airfreight came down in Q1 compared to Q4. So my question is why have you not been able to improve your yields compared to lift-off that you saw on the fourth quarter of last year? And then the second question, what explains the further pressure that you saw on the conversion rates also, both air and seafreight? Do you expect those to normalize once your yields are starting to pick up in the second half of the year?

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [49]

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David, thanks for your questions. The latter question is interesting. The question is what is the normalized conversion rate. Going back 2 years, we set targets for sea and airfreight of a conversion rate of 25%. I have to say, you all got used to higher conversion rates and conversion rates above 30% very quickly. What is normalized? From our point of view, we have a very high conversion rate in airfreight. While we saw a volume growth of 15.5%, we maintained a conversion rate of 29.9% to be precise, which is industry leading as you know. And in seafreight also, we have an industry-leading conversion rate of 27%. Normalized, our target remains to show conversion rates above 30% for both business units. That has not changed. That we sometimes have windfall profits or have margin pressure in a certain quarter might then be reflected in the quarterly conversion rate that we saw. The yield development, while not improved, yields came down, but at the same time, came down on certain trades, but at the same time, especially Europe-Asia, the rates went up from USD 400 per TEU to USD 2,000 to USD 3,000 per TEU. So while on certain trades, on average yields came down, on the run rate, on the rates lane Europe to Asia where we saw the growth, the lane that was decisive for the 38% import growth in China, these rates increased significantly. So on average, the rates stabilized or increased on -- increased from a high level slightly.

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David Kerstens, Jefferies LLC, Research Division - Equity Analyst [50]

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But there was a seasonal weakness after Chinese New Year, I think, probably impacting half of the first quarter, right?

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [51]

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We have Chinese New Year every year, so that has not changed. And it changes the week when it happens, but it has been in February last year as well.

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Operator [52]

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The next question comes from the line of [ Enrique Poulain ] from Kepler.

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Unidentified Analyst, [53]

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I've got 2 questions. One, a follow-up on this yield question on the airfreight. I would have thought that with a shorter lead time, you have an ability to pass on the freight trade faster and potentially the airfreight GP per ton would have increased faster. So could also explain also why this is the case? Is it to do with this long-term contract you alluded to? And if so, what's the percentage overall of this long-term contract in your business today? The second question relates to your comment about growing share of business going through your electronic booking platform. And I was wondering, again, in terms of the mix shift, how much of your gross profit today is done by the managed business or the e-commerce platform as opposed to the traditional full-service seafreight forwarding business and both in terms of volume or if it impacts the TEU or in terms of gross profit? That will be my question.

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [54]

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Sure, [ Enrique ]. First of all, the business wins for electronic platforms is different to what I had described before, the KN Login customer information business. These are 2 different topics. The customer information system, KN Login, enables customer visibility, as I said, on shipment, on SKU level, order level and so on. This is helping the customer to drive an efficient supply chain and steer -- or us to steer an end-to-end solution. That applies to all customers that by an end-to-end solution based on that platform. Our e-commerce business is related to e-commerce platforms, where we have an electronic interface and automatically quote, book and track fully enabled by the system. That is our KN FreightNet solution that we have deployed in the market 2 years ago, and that solution still shows double-digit growth, but it's not material regarding the overall number of shipments that we have in our system. So these would be the question regarding seafreight. Airfreight rates, I have to say, we are happy that -- and we managed successfully to stabilize the rates and the margin per 100 kilos, even bringing the margin up from CHF 68 per 100 kilos to CHF 69 per 100 kilos Q4 2016 versus Q1 2017. So that is the market dynamic we see at the moment. You can't compare it to a tight market with excess capacity also freight capacity that we have seen quarter 1 2016. There's freight capacity in the market, and that was the effect that we have seen in quarter 2, especially with China exports.

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Operator [55]

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There are no further questions. So I will you hand you back to Detlef Trefzger to close today's conference.

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Detlef A. Trefzger, Kuehne + Nagel International AG - Chairman of Management Board and CEO [56]

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Thanks, Simone. I can repeat my little prayer from before. Thanks for joining in, ladies and gentlemen, and we started into the 2017 business year strongly. With all business units, we weathered the storm in seafreight, well managed a strong volume growth in airfreight, and we're able to successfully continue to deploy our strategies in overland and contract logistics. And in total, we show a very robust and solid results, especially by last hint, if you take into account the extra profit that we booked quarter 1 2016, from the sale of real estate in overland -- in contract logistics. Thank you very much for joining in, and talk to you again in our Q2 call. Bye-bye.

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Operator [57]

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Thank you for joining today's conference call. You may now replace your handsets.