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Edited Transcript of NCC B.ST earnings conference call or presentation 19-Jul-19 7:00am GMT

Half Year 2019 NCC AB Earnings Call

Solna Jul 23, 2019 (Thomson StreetEvents) -- Edited Transcript of NCC AB earnings conference call or presentation Friday, July 19, 2019 at 7:00:00am GMT

TEXT version of Transcript

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Corporate Participants

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* Susanne Lithander

NCC AB (publ) - CFO

* Tomas Carlsson

NCC AB (publ) - President & CEO

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Conference Call Participants

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* Erik Granström

Carnegie Investment Bank AB, Research Division - Financial Analyst

* Niclas Hoglund

Nordea Markets, Research Division - Senior Analyst of Construction & Real Estate and Sector Coordinator

* Simen Mortensen

DNB Markets, Research Division - Analyst

* Tobias Kaj

ABG Sundal Collier Holding ASA, Research Division - Research Analyst

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Presentation

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Tomas Carlsson, NCC AB (publ) - President & CEO [1]

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Good morning, and welcome to this conference covering the interim report for the first half year of 2019 and the second quarter.

My name is Tomas Carlsson, and I'm the CEO of NCC. And with me here today, I have Susanne Lithander, our CFO.

I will start out giving the framework for this quarter. And then Susanne will fill in all the details a little bit later on.

Overall, the way to think about this quarter is this, this is pretty much what you could be expected -- expecting, giving our starting point with -- from the Capital Markets Day and the start of the turnaround in October last year. This is a large development work or change journey that we are embarking -- we have embarked on, and we are remaining on the right track.

Highlights for the quarter: strong orders received, pretty much driven by Building Nordics and in the more specific, it's driven by Building Denmark, but also infrastructure contributes with increase compared to last year.

Building Sweden has a solid base demand, but no large orders timed this quarter. That leaves us with a very strong order backlog. This is the strongest backlog that we've had so far.

Net sales on par with last year, actually a small increase, but pretty much on par. And operating profit on a fair level, giving our starting point.

We have restructuring cost of SEK 20 million in the quarter out of the additional SEK 200 million that we announced in October. That leaves us with the remaining approximately SEK 30 million. But also, we have to remember that we have a prudent profit recognition, which impacts the comparison with last year, and I think this is important to remember when you compare percentage of completion, profit recognition impacts a lot what kind of approach you have to risk.

For property development, we have 1 project that we have -- where we have recognized profit. One project started, and we have a strong letting in the quarter. I will give you a little bit more flavor to that.

Strong orders received, we have SEK 16.1 billion in orders received compared to SEK 13.8 billion, very much driven by Denmark, but also infrastructure, as I said. And if you compare the first year, we are slightly ahead of last year. Even though we had really strong orders received first quarter 2018, we are actually ahead now in 2019.

And more details to that, and there's always a lot of interest regarding residential. And there's a couple of stories to be told to this slide for residential.

First of all, orders received in this quarter 2, 2019, is really strong, SEK 4.5 billion. It is, to a largest extent, driven by 3 large projects in Denmark. Those are projects that we have been working on for a long time and in negotiation with the customer or in some of the cases, over more than a year. So it's driven by 3 large projects in Denmark. However, Sweden has a strong orders received in residential as well, almost [1 billion] orders received in residential. The larger part of that is for rental residentials. So strong orders received in this quarter. That's the first story to be told.

The second is, don't jump to conclusion regarding the underlying demand. We still have a somewhat muted demand for residential building in the Nordic region. Nevertheless, we have managed to have large orders [received].

If you compare to the second quarter 2017, probably on the peak of the demand for residential building, we also had really strong orders received, actually significantly larger than any other quarter compared -- that we are comparing with. That was also driven by a limited number of larger projects this time in Sweden. That's the second story.

The third story that can be told from this slide is, if you look at Q1 2017, it is -- we had low orders received in the first quarter, and that is seasonally so, but it is actually significantly lower than the 2 following quarters.

This is not a good proxy for the underlying market. This is the way that orders received in a business like ours work, and it is the way orders received works and it's a good proxy for the -- to understand how orders received works overall in the business. A few large projects can intermittently impact a quarter, and it's not necessarily a reflection on the underlying demand.

Overall, we think that we have a good market but a still somewhat muted residential market regardless on what the orders received is. I will connect back to this slide a little bit later.

Good orders received leaves us with a strong order backlog. We have the strongest order backlog so far for NCC in its current shape, SEK 63 billion, and that is encouraging. We have a lot of work with -- going forward.

Net sales on par with last year, slightly increased, but still on par, SEK 14.6 billion, pretty much distributed the way that you could expect.

And then EBIT on a fair level for the quarter. Nominally, it's a little bit lower than compared to last year, but there's a number of things to remember. First of all, we started last year -- we started in October last year, a turnaround change journey. We have, since then, a more prudent profit-recognition approach. So throughout the organization, we have a more prudent profit recognition. And we also have SEK 20 million in restructuring costs impacting the quarter. I would say that this is an EBIT on a fair level for the organization given our starting point.

I'd like to highlight that the change in our attitude towards risk, but also the fact that my review of the business was ongoing in quarter 2 last year, and that makes comparing quarter-to-quarter really difficult.

Giving you some flavor on the business areas. I will not go through the entire chart. I will point to some things that I think is important for you to understand.

Infrastructure first, good orders received. However, it is more of a normalized level compared to last year. Last year, in April-June was a little bit low following the really strong first quarter. So orders received on a good and more normalized level for second quarter.

Net sales decreasing a little bit, that's a normal variation on phasing of projects, large project that has ended. So it's a good level of net sales.

EBIT, nominally SEK 81 million, that looks really good and encouraging. It's all -- however, it's good, but it's not as good as it may look. SEK 45 million of this is the effect of resolution of claims. That is, of course, good, but it's not a proxy for how the underlying business is actually doing. So adjusted for the effect of this positive resolution of claims, the EBIT is SEK 36 million, which is an improvement; however, not as large as it nominally could look like, moving in the right direction, slow and steady, the way that we have planned it.

Road Service is approximately on the same level net sales-wise, while EBIT is a little bit weaker.

Moving on to Building Sweden. Orders received lower than last year. However, don't jump to conclusion and think to the graph I showed regarding residential building. This is not the reflection on underlying demand. Underlying demand is good -- still good with a little bit more muted residential market.

Base load and the base projects that we get is still on the same level as we normally have. But in this quarter, we have not been able to sign any contracts for large projects. So 1 or 2 large projects would bring it up to more normal level. However, we are not losing large projects. We are working with as many large projects as before, but we see delay. We have been very selective in tendering for Building Sweden, and we intend to continue with that to make sure that we have a robust and good quality order backlog for Building Sweden.

The second thing is operating profit or EBIT. Nominally, a lower margin than what we saw last year. There are 2 things impacting that. First is that we had a court case that -- for a project Rågården that we don't agree with conclusion of the first level of the court. But we had made provisions of SEK 37 million for liabilities and court cost for the -- or counterpart for Rågården for SEK 37 million.

This is absolutely real money and it's a real impact on earnings, but it's not a reflection on the underlying performance. This is a 10-year-old project. So it's not the reflection on how the business is actually doing. If we correct for Rågården the same way as we did for infrastructure, we have an adjusted EBIT of SEK 113 million, and that is an operational margin of 3%. Given the fact that we have a more prudent approach to profit recognition, I think this is on a very good level.

Continuing to Building Nordics, developing in the right way in all countries. Good orders received driven again by Denmark, but also by continuing good orders received in Finland and also an improvement in orders received in Norway. We have a slight increase in -- of course, we have no increase in order backlog, but we have a slight increase in net sales and improved EBIT to SEK 46 million. All countries within Building Nordics contributing positively, which I think is really good for Building Nordics.

Moving on to Industry. We have project phasing last year with some projects requiring really large volumes of stone material that we have a more normalized year this year, around SEK 8 million. And if you compare to 2017, there were also -- both for Q2, 3 and 4, there were volumes with no margin in operations that we have quit. So SEK 8 million is more of a normalized level. Asphalt is pretty much on the normal level. Together with Q1, Q2, we are on basically the same level as last year. And so asphalt is also on the normal level.

Earnings-wise, Industry is basically on the same level, SEK 322 million EBIT.

And finally, Property Development. We have, in this quarter, 1 property sold and profit recognized, that is Brunna 4 outside Stockholm, leading to positive earnings of SEK 40 million EBIT compared to minus SEK 16 million last year, when we didn't profit recognize in the -- to the same extent. More interesting is perhaps development in what we do in development real estate.

First, this is now a more Swedish focus on -- we now have a more Swedish focus on property development. We have started 1 project this quarter, that is Arendal 4. It's a logistics center for ICA Sweden for e-commerce in Gothenburg. So Sweden is growing its project portfolio, and we are now 17 ongoing projects.

Letting in the quarter is on a high level. We have for us quarter 2, a really good level, both in terms of let square meters as -- but also in terms of let of available unlet area in the quarter. So we have a good let development on letting throughout our project portfolio in this quarter, which leads to this graph with the letting ratio and the completion ratio moving in sync, saying that we're building a lot, but we're also letting a lot in the project portfolio.

And with that, I hand over to Susanne to give you all the details of this.

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Susanne Lithander, NCC AB (publ) - CFO [2]

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Thank you, Tomas. So now Tomas has taken you through the various business parts of our business. And we will look at the total, what it looks like at group level, starting with the income statement.

We have net sales of SEK 14.6 billion, which is on par or slightly better than last year or a growth of 2%, if you want. On a rolling 12 months, the growth is 14%.

Gross profit is slightly down, also due to the fact that Tomas has already talked about, our prudent profit recognition is decreasing the margin.

Selling and admin expenses are on a very normal 5% level, so not very much to comment there.

And EBIT, as we've already heard from Tomas, is also impacted, of course, by the prudent profit recognition, but also some restructuring cost.

Financial items show a slight increase as we have increased our corporate debt a bit, giving us a profit for the period of SEK 322 million.

And Tomas actually skipped one area in his little review and that is our segment for other and elimination, and this is how we want to explain the significant drop in EBIT in that area, going from negative SEK 87 million to negative SEK 160 million.

First line there, NCC HQ, et cetera, means our headquarter cost for staff functions and also costs or results from our smaller subsidiaries and associated companies that does not belong to a BA, business area.

The difference from last year is SEK 44 million. That is explained by extra costs that we have for our turnaround activities, such as restructuring cost and cost for selling or divesting our Road Services business. The SEK 20 million in restructuring cost is part of the SEK 200 million that we announced in Q3 last year. We took SEK 115 million in the fourth quarter. We didn't have any in the first quarter, and we have now about SEK 30 million left for the remaining of 2019.

The next line item is internal gains. This is where we eliminate the profits from our internal, primarily from property development building or building for property development. And this actually accumulates over the time of the projects until we recognize profits within property development and then it's reversed. So we need to remember that as we build. For PD, this increases.

And the last item there is more of an accounting item. It is due to IFRS 16 and the pension liabilities. So that is the explanation of our other and eliminations segment.

Moving on to our net debt, which also shows a significant increase from SEK 3.1 billion to SEK 6.4 billion. And if we start from the bottom there, our pension liabilities going from SEK 1.4 billion to SEK 2.4 billion is explained primarily by the fact that we had the big actuarial changes or the effect of actuarial changes in Q4 last year.

The next item is other net debt or corporate debt, which is driven by extra financing that we have taken up to support our growth within Property Development, but also to cover some of our negative cash flow -- seasonally negative cash flow.

And last, but not least, our leasing liabilities that are growing from SEK 0.5 billion to almost SEK 2 billion due to IFRS 16, where we also now have to include our operational leasing.

And last, but not least, we have our cash flow before financing, that shows a significant improvement from last year. And part of this improvement comes within the operating activities from IFRS 16, SEK 200 million almost, but the remaining part, SEK 400 million in improvement comes from operations. And we typically have, as you can see on the graph here, our second quarter is very weak when it comes to cash flow or we have a negative cash flow due to the fact that we start-up the industry's operations in the quarter. This year, our construction units have had a very good improvement in cash flow that reduces the negative impact from industry. So that explains the big improvement in operating activities.

We continue to invest in property -- in properties within Property Development, so our property projects have increased slightly compared to last year, but on an anticipated level.

We have invested in machinery a little less than last year, and that is our industry business that has invested a little less.

And overall, given the earnings and the seasonality in our cash flow, it is a quite strong cash flow, actually.

With that, I will hand it back to you, Tomas.

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Tomas Carlsson, NCC AB (publ) - President & CEO [3]

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Thank you, Susanne, and I think it's really encouraging that we have cash flow from operations improving significantly from last year.

The way to think about this quarter is that we are remaining on the right track for the change journey that we started in October.

Strong orders received in the quarter. Building Nordics with Building Denmark is primarily driving this, but also infrastructure. Building Sweden, solid base demand, but no large orders timed to this quarter. And I think you should remember the graph on the residential orders received.

Order backlog is the strongest that we've had so far in the current configuration of NCC.

Net sales on par or slightly improving on last year.

Operating profit on a fair level considering where we started in October and more conservative approach to -- or more prudent approach to profit recognition and restructuring costs in the quarter.

Property development, 1 project profit recognized, Brunna 4; 1 project started, Arendal 4; and strong letting in the quarter.

And with that, we open up for questions. Operator, do we have any questions?

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of [Gunnar Pedersen] from [Glenn Oslo].

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Unidentified Analyst, [2]

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My name is [Gunnar Knutsen]. I'm calling from Oslo. Not [Pedersen], but [Knutsen]. I have a short question. If you consider the prudent profit recognition and compare it to last year, can you give any figures that has had on the total result?

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Tomas Carlsson, NCC AB (publ) - President & CEO [3]

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Well, I'd love to, but I won't because that's part of -- this is what we think is a prudent public profit recognition. And I think what I recommend is always look at the cash flows.

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Operator [4]

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Our next question comes from the line of Simen Mortenson from DNB Markets.

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Simen Mortensen, DNB Markets, Research Division - Analyst [5]

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This is Simen Mortensen from DNB. Just a bit of a follow-up on the same element in terms of the prudent profit recognition. When is the hockey stick effect coming? Will there be a hockey stick effect coming because of your prudent accounting? And will that be typically a new sequel pattern for Q4, so will it be in terms of when you complete larger projects?

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Susanne Lithander, NCC AB (publ) - CFO [6]

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We are not planning for a hockey stick. What we are planning for is gradually improvement on the underlying earnings. And since we took a new approach on more prudent profit recognition, we will have to work through the current project portfolio. And you will have to remember that the average length of our projects is 2 years and that would give a pretty good indication on how long time it takes to work through the order backlog we had in October last year.

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Simen Mortensen, DNB Markets, Research Division - Analyst [7]

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So you will say that it will be a continuously -- once you recycle these projects, this will come to effect and not necessarily with project completions typically in Q4?

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Susanne Lithander, NCC AB (publ) - CFO [8]

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That's what we're aiming for.

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Simen Mortensen, DNB Markets, Research Division - Analyst [9]

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In terms of also the other costs, it remains quite high underlying, despite some of these -- especially when you look at the NCC HQ cost. How much of this -- and just also on the internal gains, how should we externally consider this going forward? Can you please give us a bit help on a way to understanding how this will work going forward?

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Susanne Lithander, NCC AB (publ) - CFO [10]

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I can start out and say, these are costs on -- of a temporary nature. We have not increased underlying overhead costs for the NCC group. But we have some cost in relation to turnaround activities and divestments, but we also have restructuring costs in the quarter.

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Simen Mortensen, DNB Markets, Research Division - Analyst [11]

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And internal gains, how should we think about them because they were quite significant this quarter?

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Susanne Lithander, NCC AB (publ) - CFO [12]

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Think about it as increased activity in our project portfolio -- project development portfolio. When we are investing more into our project development projects, we eliminate the internal gains between -- from building centrally. So it's a pretty good gauge on how much we are producing internally.

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Simen Mortensen, DNB Markets, Research Division - Analyst [13]

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So once you sell an asset, this one will be removed, if I understand correctly?

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Susanne Lithander, NCC AB (publ) - CFO [14]

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Exactly.

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Operator [15]

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Our next question comes from the line of Niclas Hoglund from Nordea.

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Niclas Hoglund, Nordea Markets, Research Division - Senior Analyst of Construction & Real Estate and Sector Coordinator [16]

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Niclas Hoglund here. A couple of questions, if I may. Firstly, if we start out with Construction Nordics, you have a very strong order intake as you point out, mainly related to large projects in Denmark. And historically, your Danish operations have been -- well, haven't had a profitability above group target. I mean you're now talking about the business projects, which have been involved in bringing to the table for, in some cases, more than a year. So could you help us to understand the sort of, if you will, if this will dilute profitability going forward as you apply a more cautious way of accounting? Or is this the sort of -- will this be rather neutral or quite positive?

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Tomas Carlsson, NCC AB (publ) - President & CEO [17]

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First of all, I think we have to remember that for a long period of time, NCC Building Denmark had really good earnings. They were actually the champions of delivering good projects in NCC. That's the first thing to remember. They've had a few couple of -- a few years with subpar earnings, that's absolutely true, but they're moving in the right direction.

I also belong to the group of Swedish CEOs that actually have a positive view of doing business in Denmark. I have really good experience from that. So I think Denmark is underlying, a really good market. And we have been through these projects in a very, very thorough way. In this life, there are no certainties, but debt and taxes, but we are pretty convinced that they will have a positive impact on earnings in Denmark going forward.

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Niclas Hoglund, Nordea Markets, Research Division - Senior Analyst of Construction & Real Estate and Sector Coordinator [18]

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Sounds good. And on -- moving over to Construction Sweden. I mean orders are a little bit subpar, I must say, and especially, the order backlog is coming down. You're talking about good underlying base orders. Are there no reason to adjust organization going forward? And what's your thought on the sort of activity level you're seeing in construction?

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Tomas Carlsson, NCC AB (publ) - President & CEO [19]

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We actually took action on decreasing organization size in Sweden in quarter 1 and quarter 4. So we have preemptively taken actions on that. And that was primarily built on the decrease in the residential market in Stockholm, but also in other places.

So there's always reasons to adjust. And I -- as a general comment, I think, NCC going forward, will continuously adjust where we need to. We will grow where we have -- where the organization has earned the right to grow, but we will also gradually prune the organization when we find it necessary.

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Niclas Hoglund, Nordea Markets, Research Division - Senior Analyst of Construction & Real Estate and Sector Coordinator [20]

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So you don't expect any SG&A dilution due to slightly lower activity here, should already be taken action on?

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Tomas Carlsson, NCC AB (publ) - President & CEO [21]

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Yes.

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Niclas Hoglund, Nordea Markets, Research Division - Senior Analyst of Construction & Real Estate and Sector Coordinator [22]

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Right. And my final question, if I may, is on the restructuring charges, you're not booking them to the central line, while previously, you allocated it to the divisions. Should we expect the remaining SEK 28 million or SEK 30 million also to be booked on the central line? And could you maybe share some thought on what this SEK 20 million are actually for, and maybe the remaining SEK 28 million as well?

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Tomas Carlsson, NCC AB (publ) - President & CEO [23]

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This is a more reflection of where we have made restructuring and this is restructuring for headquarters, and that's why we booked them centrally.

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Niclas Hoglund, Nordea Markets, Research Division - Senior Analyst of Construction & Real Estate and Sector Coordinator [24]

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So this is head count?

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Tomas Carlsson, NCC AB (publ) - President & CEO [25]

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This is head count.

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Operator [26]

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Our next question comes from the line of Tobias Kaj from ABG.

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Tobias Kaj, ABG Sundal Collier Holding ASA, Research Division - Research Analyst [27]

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I would like to start to ask regarding the volumes you saw for stones and asphalt. Given the milder winter we had in the first half of this year compared to last year, shouldn't that enable higher volumes? And due to that, is the slight decline a sign of a slower demand?

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Tomas Carlsson, NCC AB (publ) - President & CEO [28]

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It is slower. Mild winter is always good. Based on the facts that we have, we cannot see this as a decline in demand.

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Tobias Kaj, ABG Sundal Collier Holding ASA, Research Division - Research Analyst [29]

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Okay. And then regarding your pension liabilities. You had a minor impact in the second quarter and the first half. But last year, you had a quite big impact. And I mean, we have seen a quite a big drop in interest rates in the first half. And I assume you haven't made any changes in your assumptions regarding discount rates for your pension liabilities. Can you give some more flavor on that? Is that something that is on the table? And what kind of impact should we expect from that?

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Susanne Lithander, NCC AB (publ) - CFO [30]

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Yes. What we do with our pension liability is that we review it every quarter. So we look at the recommendations from PRI on what their recommend to use as a discount, and we had a big impact in Q4, as you said. We did not have an impact in Q1. In Q2, we have had a small impact. We had revised our discount rate down in the Q -- second quarter, but the effect was very minor, I would say, about SEK 30 million only. So we do review it every quarter on a regular basis and see.

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Tobias Kaj, ABG Sundal Collier Holding ASA, Research Division - Research Analyst [31]

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And could you say how much you adjusted the discount rate in the quarter?

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Susanne Lithander, NCC AB (publ) - CFO [32]

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Yes, we took it from 2.35%, down to 2%.

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Tomas Carlsson, NCC AB (publ) - President & CEO [33]

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In Q4, in Q4.

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Operator [34]

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(Operator Instructions) Our next question comes from the line of Erik Granström from Carnegie.

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Erik Granström, Carnegie Investment Bank AB, Research Division - Financial Analyst [35]

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I would like to start off by asking you about the cash flow. You mentioned in the presentation that cash flow from operations was actually quite strong in the first half of the year. Does that mean that you expect cash flow in the second half of the year to be sort of unseasonably weak, given that usually cash flow is stronger in the second half of the year, especially in Q4? Is that still what you're expecting? Or should we expect that given that cash flow was good in H1, that it's going to be slightly less of an impact in H2?

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Tomas Carlsson, NCC AB (publ) - President & CEO [36]

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Erik, in public, I don't expect anything for the future. But I can tell you this, we're working hard with the cash flow and -- to make sure that we have good cash flows going forward.

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Erik Granström, Carnegie Investment Bank AB, Research Division - Financial Analyst [37]

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Okay. And then also, I would like to ask you about infrastructure, and particularly Infrastructure Norway, where you had a number of projects, historically, that, obviously, have not been profitable. And from what I understand, you are very close to completing these projects now as we leave the first half of the year. Could you tell us something about what was the impact? Or did they have any impact in Q2 at all in terms of profitability for infrastructure in Norway?

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Tomas Carlsson, NCC AB (publ) - President & CEO [38]

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They had impact, significant, but we are now more or less done with them. The 8 projects that we talked about in October, now have a percentage of completion of 99%. So they are more or less done, but they impacted the earnings in Norway last year.

I'd like to highlight that Infrastructure Norway had, in the same way as the rest of the organization, no big bad surprises. And a very significant improvement over the quarter, but they still impacted in the second quarter.

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Erik Granström, Carnegie Investment Bank AB, Research Division - Financial Analyst [39]

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Okay. So they are still impacted. So when you're saying that we need to keep in mind that prudent profit recognition is impacting our earnings within the infrastructure, but also building within infrastructure, you were also impacted by the fact that these projects are running out of Q2?

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Tomas Carlsson, NCC AB (publ) - President & CEO [40]

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Yes. And to further elaborate on that, also -- let me put it like this, projects that we wrote down to below 0 had an impact on all business areas, most significantly for Infrastructure and for Building Nordics. And we are gradually working with these projects, so they will get smaller and smaller.

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Erik Granström, Carnegie Investment Bank AB, Research Division - Financial Analyst [41]

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Okay. And then finally, I had sort of a little detailed question on Infrastructure as well. The internal sales effects in Q2 were actually negative in the Infrastructure, and I'm not really used to seeing that historically. Could you just explain a little bit what that was? And should we expect that to continue as well?

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Tomas Carlsson, NCC AB (publ) - President & CEO [42]

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This is primarily an impact on a more administrative adjustment we did between Building and Infrastructure in May.

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Operator [43]

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Thank you. And as there are no further questions registered at the moment, I will hand the word back to the speakers for any closing comments, please.

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Tomas Carlsson, NCC AB (publ) - President & CEO [44]

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Thank you all. And if there are no more questions, thank you all for attending. A way to think about the second quarter for NCC, remaining on the right track. This was pretty much what you could expect: good orders received, order backlog stronger so far, net sales on par, operating profit on a fair level given our starting point and the prudent profit recognition going forward and also significant improvements in cash flow from operations.

Thank you all, and have a fantastic summer.