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Edited Transcript of NRE1V.HE earnings conference call or presentation 3-May-17 3:00pm GMT

Thomson Reuters StreetEvents

Q1 2017 Nokian Tyres plc Earnings Call (Q&A)

NOKIA May 11, 2017 (Thomson StreetEvents) -- Edited Transcript of Nokian Tyres plc earnings conference call or presentation Wednesday, May 3, 2017 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Andrei Pantioukhov

Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations

* Anne Leskelä

Nokian Renkaat Oyj - CFO and VP of Finance, Control & IR

* Tommi Heinonen

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Conference Call Participants

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* Bruce Davis

* David Shaw

* Henrietta Seligman

* Joy Kopcha

* Kai Alexander Mueller

BofA Merrill Lynch, Research Division - Associate and Analyst

* Martin Viecha

Redburn (Europe) Limited, Research Division - Research Analyst

* Nikhil Bhat

JP Morgan Chase & Co, Research Division - Analyst

* Thomas Besson

Kepler Cheuvreux, Research Division - Head of Automobile Sector

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Presentation

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Operator [1]

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(technical difficulty)

there is a timing effect between those 2 and it can be seen in the Q1 result that the profitability would have been even better if we were able to already implement the necessary price increases to cover increased raw material costs, but in most market areas, we didn't have a chance to do it yet. So in our Q1 results, it's only Russian sales with earlier timing that have those price increases already in place. But for other market areas, even though we made the necessary decisions to increase prices to cover the increased raw material costs, the effect of these price increases will be seen in Q2 and Q3. And then, of course, depending on how the raw material cost develops, in practice, we also could perhaps make further price increases if it's necessary.

And then, of course, the big decision, which has been anticipated for a while and which was finally made yesterday, the decision to invest USD 360 million into a new greenfield project in North America, which shows the location in the State of Tennessee, Rhea County, in the City of Dayton for our future factory, which was the result of a very thorough investigation where we reviewed over 80 potential sites for the location of our factory across the whole North America, and then based on a number of criteria, we finally selected this one, which we felt was clearly the best for our purposes. And we're very happy with this choice. It's not a compromise. It's a really good location. We were especially happy that we are confident that we will receive the full support from authorities and from the local community on both -- on all levels: State, county and the city.

And then, looking forward for the rest of this year, there are some uncertainty factors which will determine how good results we can achieve for the full year. We have to be a little bit cautious at this time because of the uncertainty around the raw material costs and our ability to fully and, in time, implement the necessary price increases. We can see that, especially in those market areas where we are dependent also on what our competitors are doing, especially in Central Europe and North America where our market position is not as strong yet as it is in other countries and Russia, we are also dependent of what other players are doing in terms of pricing. So this is probably the biggest question mark related to our ability to increase operating profits even more than what we guided now. But to be conservative and to deliver our promises for sure, this is our cue for the -- our expectations for the rest of the year. We expect that we will be able to increase our net sales by at least 10% compared to the previous year and to increase our operating profits by over 5% compared to 2016. And yes, of course, there is upside potential in these figures, especially on the operating profit side, but it's still too early to promise better results at this time for the reasons which I described.

I think that summarizes briefly the overall situation and also gives some highlights about our investment decisions -- our decision. I think we are ready now to take the 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 Martin Viecha from Redburn.

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Martin Viecha, Redburn (Europe) Limited, Research Division - Research Analyst [2]

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This is Martin Viecha from Redburn. I have 2 questions, if I may. Firstly, on the capacity expansion, I was just wondering -- you hinted on the first call that there might be a fourth factory at some point in the future. And I was just wondering, given the very strong cash generation of your business, a very strong net cash position of your business, wouldn't it make sense to start building the European factory fairly soon after you start building the U.S. factory? Or is this mainly an issue of sort of the management bandwidth? Or basically, I'm trying to figure out what is the reason why you're not addressing the capacity constraints that you were talking about in a much more aggressive way?

And the second question would be, given your company is getting much, much more global and, hence, this conference call, which is also meant to address the U.S. investors, et cetera, would it make sense to perhaps have a dedicated IR team to help us on a regular basis with day-to-day questions that we might have?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [3]

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Okay. Answering the first question, yes, there was a discussion in the morning about like longer-term prospects for our company's capacity extension. And I said that it's not the question which needs a local factory, North America or Europe? We are confident that both market areas ultimately need a local production base, but for us it was question of a priority. And for a number of reasons, we think that North America, at this time, has a higher priority for us in terms of localizing our production. Hence, this decision to locate the factory in North America.

Now, coming to the next possible move with capacity extension to Europe. Of course, it's not an issue of [indiscernible] demand. It's a question of when we need the capacity. And, of course, we are not going to build any overcapacity which is not needed and then stay idle just because we want to use up the money. It's -- I think it's wise for us [if it was determined] by demand. And now that we decided to invest in the North American factory first, I think what is really important to understand here is that it will not only help us to better serve the North American market, but it will also free up a lot of capacity from our distant factories in Finland and Russia by easing the capacity of the production and enabling us to improve productivity and increase output without any further investments. So that will enable us to serve our other customers in Nordic countries, in Russia, in Central Europe and perhaps in other parts of the world, better through this decision. So then, I think we will be ready to come back to the question of a European factory once we need the next step in capacity expansion as a whole. Hopefully, that answers your question.

And then, coming back to the second one, I think we do have a dedicated Investor Relations team. Of course, CFO, Anne Leskelä, who is present here today, is in charge of that. And then, we have a dedicated person, who is also here today, Jutta Meriläinen, in charge of Investor Relations. So if you don't have still a contact with them, I encourage you to build one. And I'm sure they will be always available to report to you in any way you might need.

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Operator [4]

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Our next question comes from the line of Nikhil Bhat from JP Morgan.

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Nikhil Bhat, JP Morgan Chase & Co, Research Division - Analyst [5]

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This is Nikhil from JP Morgan. I have 3, if I may, and they're -- all 3 of them are around the bridge that you report in your presentation. So I'd like to take them one by one, if I can.

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [6]

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Yes, sure.

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Nikhil Bhat, JP Morgan Chase & Co, Research Division - Analyst [7]

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The first one is on the materials line that you report on bridge. And in the morning call, there was a discussion around the impact in the first quarter being -- at least how I understood, it was that it will be the largest in the year. And I thought I'll just confirm if what I understood was correct. Is the first quarter impact expected to be largest in the year and the impact is supposed to come down over the remaining quarters? Is that how I should look at it?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [8]

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Anne is to support me in answering this one.

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Anne Leskelä, Nokian Renkaat Oyj - CFO and VP of Finance, Control & IR [9]

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Yes. I said that the first quarter having fair share over where they are year-end. And the fact, of course, is that the first 2 quarters will be pretty much know and then, of course then the second half is the one which we do not [know if it will be like last year]. We are like [indiscernible], so the fourth good quarter being the one, which we had most like -- still not like indiscernible purchased raw materials. Then the change will be roughly the size of the first quarter and actually the third quarter might be the highest of all, but no big changes as such indiscernible .

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Nikhil Bhat, JP Morgan Chase & Co, Research Division - Analyst [10]

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Understood. And the fix in production costs, you mentioned in the morning call that there was an impact of the Russian ruble appreciation as well. [Keeping] that in mind, how should we think about this in the coming quarters?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [11]

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We think that -- of course, it will depend on the development of the exchange rate of the ruble, but of course, if you compare the difference of the exchange rate of ruble against euro this quarter, Q1 this year and Q1 last year, that's the difference. It's the biggest because the ruble is now stronger by what, 30%, 40%. And I'm not sure, it used to be even up to 90 rubles per euro and now it's around 60. So if the exchange rate is based on the current level then this impact will, of course, be smaller during the rest of the year.

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Nikhil Bhat, JP Morgan Chase & Co, Research Division - Analyst [12]

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Understood. And my last question is on the price/mix discussion that we had around in the morning call as well. I thought if I could ask it another way, is it possible for you to, if not quantitatively, at least qualitatively, separate out the price and the mix impact? And I was wondering if there was a large positive pricing impact because, as you said, you already increased prices in Russia and Russian sales are relatively strong this quarter. Is that the right way to look at it?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [13]

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Yes. When we try to separate these factories with smaller elements that, as I said, the only market area which configurative to the average price -- development itself, when we consider that in local currencies, is Russia in Q1 because in other market areas the price increases were implemented only after the end of Q1, starting from April and May, in different market areas, whereas in Russia, we start our preseason deliveries, of course, summer and winter time earlier and we were able to actually make the necessary price increases even before the beginning of Q1. So in terms of price, yes, Russia was the only market which contributed positively. We expect the other market areas to join also starting from Q2 and probably truly visible in Q3.

Mix improved actually in, practically, all market areas with our highest share of premium products compared to [B] segment products. On -- at the same time, it's not straightforward, this mix development because there were also some elements which could be considered negative even though we don't see them that way. I'm speaking about the ratio between winter and summer tires. And in Q1 this year, the share of winter tires was somewhat lower than in Q1 last year and summer tires increased and especially all-season tires mainly in North America increased their share compared to Q1 last year. But the way we see it is actually positive because it means that we have been able to meet the immediate demand, which is, in terms of summer tires, for example, will be now in the -- in our markets during this spring, during this consumer sellout season. And then, we still have enough time to fulfill the preseason deliveries of winter tires before the next winter season.

Does that help you to understand the dynamics?

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Nikhil Bhat, JP Morgan Chase & Co, Research Division - Analyst [14]

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It does.

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Operator [15]

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Our next question comes from the line of Thomas Besson from Kepler Cheuvreux.

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Thomas Besson, Kepler Cheuvreux, Research Division - Head of Automobile Sector [16]

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I have 3 very quick questions. First, can you remind us, broadly speaking, what was the production in 2016 for your 2 plants? And what was the amount of tires that was -- were contract manufacturers? That's the first question.

The second, can I ask you to give us your best guess of the sequence of CapEx between '17, '18, '19 and '20 for the new U.S. launch? You've said, I think, that most of it would be in '18 and '19. So we assume like EUR 5 million or EUR 10 million each for '17 and '20 and the bulk in '18, '19 or is there going to be a bigger share for this first and last year?

And lastly, I asked a question this morning about the cost of upgrading the first production lines in Russia. And you said it wasn't going to be a priority. While I think (inaudible) and [Andrei] both mentioned (inaudible) that this was something that would -- was considered before going for potentially a [fourth] slot. So can you just -- can you again -- how much it would cost to upgrade the other lines versus building the first plant in Europe?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [17]

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Starting with the first question, production capacity. So when we started the -- this year, we have production capacity of a -- nominal production capacity of 15.5 million in Vsevolozhsk in Russia and of around 2 million, 2.5 million with the current shift pattern in Finland. Of course, the Finnish factory used to produce between 5 and 6 million tires earlier, but that was in a different operation mode, 24/7 operation, including the weekends and without the additional holiday weeks and so on. And what is happening now, we are increasing the capacity of the Russian factory by 1.5 million tires in annual level. And we are also aiding personnel to the Finnish factory to increase the daily production output in Finland, but not changing the shift pattern at this time. So this will enable us to have a [total capacity] on an annual basis by the end of the year around 2 million tires more than what we have in the beginning of the year. And even though, right now, on a temporary basis, we have [based in] certain capacity constraints, the situation will be clearly better in the second half of the year. And we also don't have any -- we don't see any issues with 2018.

And then, to 2019, it's too early to say. Of course, it will depend on the demand pretty much, but we can always ramp up the production in Nokia by changing the shift pattern and going back to 24/7 operations mode. So we are prepared to do that when the situation requires that decision.

Does that answer the first question? Hopefully, it does.

Then, I will jump first to the third question and then come back to the CapEx [indiscernible] the new factory. So the third question was about why don't we plan to -- the way I understood it -- why don't we plan to increase further our capacity of the Russian factory by replacing the first several production lines with the previous generation tire-building machines with the newer ones with the higher output. And yes, this is something which at least (inaudible) was talking about earlier. I guess that was before year 2014 and the question might be changed, which happened in -- at least in the world politics around Russia. And this is one of the reasons why we don't want at this point to increase further our [contraries], meaning dependent on -- too high dependence on Russia as a market or as a production base. And that's why although it's possible in the longer term that we will come back to the idea of further increasing our production capacity in Russia by either replacing some of the machinery or building a new extension of the factory because it's still possible, we have the land to do it, but it doesn't come right now as a high priority for us, whereas our -- a higher priority for us is to have first the factory in North America and perhaps the next one in Europe in a few years.

And then, coming back to the CapEx question. I mentioned that in this year's investment plan we have EUR 6 million which are allocated for the new factory. And then, looking at 2018 and '19, this is where the bulk of the investments will come from. Maybe Anne can help me with the -- who have, at hand, more details with respect to that.

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Anne Leskelä, Nokian Renkaat Oyj - CFO and VP of Finance, Control & IR [18]

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Yes. Actually, I was looking at the numbers. In fact you could say that is divided [indiscernible] 2018, 2019 are slightly more than EUR 100 million. And then, in '20 and '21, roughly EUR 45 million. And that's the rough numbers at the moment and anything you asked.

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [19]

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Yes, but the investments will continue to 2021 because, of course, we'll construct the whole facility at the one [go] and we will fill it with machinery gradually like we did in Russia. And the ultimate capacity will be by 2022.

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Thomas Besson, Kepler Cheuvreux, Research Division - Head of Automobile Sector [20]

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Very good. Can I just ask you, once I had mentioned my first question, the contract manufacturing, is it leaning now for heavy trucks now? Or do you do some other contract manufacturing currently?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [21]

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Yes. Sorry, I forgot to answer that part of the question. We don't have any contract manufacturing right now in Passenger Car Tyres. That means that we don't have supply of Passenger Car Tyres from other tire manufacturers. We only produce tires which we manufacture ourselves for Passenger Car Tyres, but we do have off-take agreements in, especially in Truck Tyres, but also in Heavy Tyres to some extent.

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Operator [22]

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Our next question comes from the line of (inaudible) from Audi Asset Management.

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Unidentified Analyst, [23]

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On the [question] of the EUR 60 million headwinds for raw materials that you projected for this year, if I reflect to Slide 9, you shown index next level of 94% versus 79%, which is roughly 20%, which kind of -- if you add that to your starting raw material build last year of EUR 320 million, that gets me to EUR 60 million. So where is the volume in that coming through? Is this EUR 60 million on a same volume basis? Or is the EUR 60 million including the increased volumes?

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Anne Leskelä, Nokian Renkaat Oyj - CFO and VP of Finance, Control & IR [24]

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I think it's quite different. So it's not taking into consideration our volume changes (inaudible) is like. So production volumes, which we think we are going to produce this year and it's just like accounted by last year's prices and this year's prices. So this is quite different.

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [25]

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But, of course, we weighted for the calculation in our expected production volume for this year. So it means that if we upgrade our production and sales volume estimate like we did right now, it will be seen in a higher number and that's the reason why it's actually higher than what we show the range of our expectation of this headwind in the beginning of February.

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Unidentified Analyst, [26]

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But in -- but as of 2016, if I refer to your report, it says your raw material bill was about EUR 321 million. So if you are expecting raw material prices to increase by 20%, that gets me to EUR 60 million without a volume impact. So I'm just wondering if there's something I'm missing here.

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [27]

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Do we have (inaudible) EUR 321 million?

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Anne Leskelä, Nokian Renkaat Oyj - CFO and VP of Finance, Control & IR [28]

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No. It's a profit and loss number and this is our production gross number. So there is a difference because, of course, we are not taking into consideration that we still have (inaudible) inventories and it's not taking immediate, but this is difference.

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Operator [29]

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Our next question comes from the line (inaudible) of (inaudible) Asset Management.

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Unidentified Analyst, [30]

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I mean, I did have a question about the raw material cost because I'm trying to understand the large picture because when I look at -- I know that it is not a perfect correlation, but when I look at what is happening, at least what I can see on my Bloomberg screens, looking at the (inaudible) prices, I mean, I see -- I can see that in the last 2, 3 months, a big part of the upward pressure went down again. And so we are not very far from anywhere -- at the level where we were during last winter. And it's really difficult that is Butadiene that is the biggest driver for synthetic rubber and the biggest driver for your cost base. And is there any charge that we are too much worried about the raw material revolution and perhaps we are looking more at the past than in the future? I know it's a complicated question, but try to have your idea about this revolution?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [31]

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Yes. I think I also mentioned in the morning that we should distinguish between our raw material prices and raw material costs that we have in our figures. And when we speak about prices, it's really easy to follow looking at Bloomberg screens and quotes and everything. But, for raw material costs for us, it's a little bit more complicated because then we take into account the timing of our purchases of raw materials. We tend to -- some of the materials, the most important ones, we tend to buy 3 to 6 months in advance. And then, we buy and we store them. And once we consume them, they start generating costs. And then, the exchange rate impact, which comes into the picture, at this point because if we purchase raw materials, for example, in Russia, paying in ruble for them, and then we store them. And once we consume them, they become costs. And then, we convert these costs into the -- our figures with the current exchange rate, and if that exchange rate is different from the one which we have when we purchased the raw materials, then this difference will have an effect on our figures. So I think that it is possible that, right now, the influence of increased raw materials costs for us is somewhat higher than for some other tire manufactures. That is possible. And you are right that -- let's hope that the peak of these increases is over, but from what we can see is that we will live in this high -- in the world of high raw material costs at least for the next couple of quarters. And then, what will happen at the end of the year will pretty much depend on how the raw material prices will -- what kind of performance they will show during the next few months. And then, of course, it's a combination of different raw materials. Here, we have just one figure which tries to summarize the whole, but then when if we look at the performance of natural rubber, which is really important for us, and then synthetic rubber and [indiscernible] and chemicals, it's very different development. Some of them right now are going up, some of them are going down.

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Unidentified Analyst, [32]

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Okay. Okay. So can I ask a second question and the last one. And it relates to the [new investment in the U.S.]. I do not remember when you made the big investment in Russia and when you compare the evolution of the Russian plant and its cost, when you started to be the plant there and the timeline and so on. And if you compare that situation of what can happen to Russia -- sorry, to U.S. plant. Do you get any risk, I mean, of [having] a cost overrun or how are you going to monitor the CapEx evolution for the plant?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [33]

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Yes. Thank you. If we look at into the history, we made the original decisions to investments into the Russian factory back in early 2004. And at that time, the decision was to build a factory with a ultimate production capacity of up to 8 million tires a year and we -- the plan was to reach this capacity by year 2016. Of course, we accelerated the implementation of this investment project so that by year 2016 we actually had double that capacity just because the implementation of this investment was very successful, and we received even much faster payback from this investment that than what we expected in the beginning. Now speaking about the North American factory, of course, the situation is very different because we are not entering the -- a new market and a market which is growing like Russian market did in 2004, 2005. But we are strengthening our presence in a mature market, which does grow, but the growth [versus] is quite modest. On the other hand, we have already now quite a strong presence in North American market, selling quite significant volumes of both winter tires and all-season tires and light truck tires in this market, which enable us to believe that the capacity of this factory will be well used once operational. So we don't see decrease in fulfilling this capacity with demand, thinking about 4 million annual capacity in year 2022, where we're quite sure we can fill it with local demand. But whether there will be space for next expansion of this factory will, of course, depend pretty much about how -- on how successful we are in developing our North American sales. And this is something, which we will decide later. But according to all of our calculations and analysis, the investment which we right now commit to building this 4 million tire factory will be sufficient to be optimal in terms of profitability and having enough capacity to justify the investment.

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Unidentified Analyst, [34]

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Okay, sorry. I'm sorry, can I have a third question, if possible?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [35]

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Yes, Sure.

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Unidentified Analyst, [36]

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About all this the U.S. plant, because this morning I read some (inaudible) likening the cost of the plant is higher than what was forecasted in 2015. I mean, is there a big difference this 2015? And how much is due to the dollar -- the currency evolution? Or the size of the plant is different from the initial size forecasted in 2015?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [37]

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To be honest, I don't remember exact figure that we communicated in 2015. But at that time, that was quite a raw estimate about what the total investments could be. And it can be the case. I'm just speculating right now, because I don't remember. It could be the case that we started maybe at the initial phase we will not have mixing facility at the factory or something like that. But now what we announced now is very thoroughly analyzed investment, which is a full cycle production facility with mixing mill, with warehouse, with the whole infrastructure. And also this figure includes the necessary molds for the products, which will be produced at the factory. So we are pretty confident with the figures right now.

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Operator [38]

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(Operator Instructions) Our next question comes from the line of Bruce Davis from Tire Business.

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Bruce Davis, [39]

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Yes. Regarding obviously, the investment here in the U.S., can you outline briefly what economic or other infrastructure incentives to the State of Tennessee or local authorities are bringing to the project? And describe perhaps the site itself now as it's part of an existing corporate park? Or is it really a greenfield that still has to be developed from square 1?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [40]

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Yes, okay. Thank you. I will probably start with the second part of the question, describing a little bit the location. It's actually an extension of -- an existing industrial park, which is located on the suburbs of the city of Dayton in Rhea County. There are a few industrial companies around, but this investment is going to be the biggest foreign investment announced in the Rhea County in the whole history. And also that according to local authorities that the biggest initial announcements of new jobs to be created is the one investment in the county. So it is quite a big event, big news for the state and for the local community. The size itself as I said it's an extension existing industrial park, but it requires quite a lot of preparation work in order for us to be able to start construction and that work will start pretty soon and should be ready by the end of the year. So this is where our schedule to begin construction in early 2018 actually comes from. And back to our cooperation with the authority from the state, county and city level, we are very happy that we have witnessed full scale support in every form from them. They are very business friendly and very keen to have these kind of projects on their territory. So we are pretty confident that it will be a successful joint project with them. And of course, when we negotiated the package of conditions, which would enable us to do this project in a economically favorable way, of course, there are certain support that we will receive from the state, from the local community and their partners. But because of certain restrictions, unfortunately we cannot disclose exact amounts or exact ways of business interests. But we are very happy to have them in place.

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Bruce Davis, [41]

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Okay. One follow-up if I could. Looking at your financials, North America last year was roughly 11% of global sales or I guess translated about $165 million to $175 million. Do you have growth prospects, growth expectations you can share considering the new plant coming onstream, and where you want to be in 3, 4 years?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [42]

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Yes, thank you. Of course, the plant itself will help us boost sales only after year 2021, 2022. But we feel -- and based on the initial reaction of our customers in North America, we know that indirectly it will help us increase our sales in North America starting from today, because of course, coming to the U.S. with this kind of investment will make us a different -- make us to enter a different league of companies of tire manufactures who have actually local production within the U.S. and also this strengthens the commitments of Nokian Tyres as a company to the North American market. So speaking about our [efficiencies], we think that based on the plans that we have right now and as we're going to implement, we should be able to about double our sales in North America in the next 5 years.

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Bruce Davis, [43]

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Wow, that's ambitious.

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [44]

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Thank you.

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Bruce Davis, [45]

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And a final question perhaps your investment figure EUR 360 million, when I compare with other recent investments here: Hankook EUR 800 million, Century EUR 530 million, GT EUR 560 million, et cetera, your -- yours was a bit lower, what's your secret on getting the most out of your investment?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [46]

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Well, probably we are not in a position to comment our competitors' plans or whatever, but we are operating this plant on our experience in the investment into the Russian factory during the last 13 years. We know that our investments have been quite efficient. And with the total investments around $1 billion, we have the biggest [tire factory] in Russia now and the world's most productive tire factory to our best knowledge in terms of productivity. And based on this experience, we plan to build a state-of-the-art factory in the U.S., which will be either the best or second best, I guess, they can compete in the future with the Russian factory, I guess, that's our level of ambitious -- ambition. But I think also looking at the announced plans of competitors that probably one difference is that the plan which we come out now with is a clear plan. We are going to implement it. And that's for sure. We don't know if there is a continuation, then that will be decided in the future. But if you look at the sum of these announcements of our competitors, especially from Asia and other players, then let me put it this way not all of these plans as far as we know are being implemented according to the same announcements that they might be public.

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Operator [47]

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Our next question comes from the line of Kai Mueller from Bank of America Merrill Lynch.

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Kai Alexander Mueller, BofA Merrill Lynch, Research Division - Associate and Analyst [48]

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Just wanted to follow up on a question I had earlier on the call this morning. We had the question regarding those -- the upgrading costs you currently have for the 1.5 million additional units in Russia. You said the 80 million includes other parts. Can you give us a little bit of flavor of how much is directly attributed to that 1.5 million unit extension? And then actually I'm fortunate to come back a little bit to that tire bridge. Just to make it work, we have that 60 million for the group and obviously not all of it goes to the passenger vehicles. And you've alluded that we've had a large chunk in Q1 that sort of probably even in Q2 and maybe a bit higher in Q3. I'm just wondering how that sort of all adds up to the full year number or what are the other moving parts would be materials? And if so, have they been a tailwind to you?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [49]

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Let's start with this second question. I don't know whether Anne has a good comment on this, but let's start with that.

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Anne Leskelä, Nokian Renkaat Oyj - CFO and VP of Finance, Control & IR [50]

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It's good to remember that the increases in raw materials, which we're now predicting to be 6 million, that is like having to do with the whole group. It's not only [car and van] tires. So we have also like the heavy tires and it's included in that number and the bridge of course is only for the entire Passenger Car tires. So you could remember that.

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Kai Alexander Mueller, BofA Merrill Lynch, Research Division - Associate and Analyst [51]

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Okay, okay. And then on those -- on the 1.5 million?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [52]

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Yes. Speaking about those investments, what we said is that out of our investment plans, we are going to invest EUR 83 million in the Russian factory. And we don't have exact breakdown of what share of this amount is going to directly into the capacity extension. Of course, the production line, the machinery itself is a small part of this total figure. But this figure also includes necessary investments in the modernization and expansion of the mixing facility because it was not the way it was designed and built, it was not planned to serve so huge capacity. So we are now replacing some of the machinery in order to get higher output from our mixing facility. This figure also includes building raw material storage at the factory. And also the first part of the bigger investments into a new highly automated finished goods warehouse that we plan to start building later this year.

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Operator [53]

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Our next question comes from the line of Henrietta Seligman from Somerset Capital.

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Henrietta Seligman, [54]

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My first question is how do you expect production costs in the U.S. to compare versus your costs in Russia currently, please?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [55]

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Thank you. In our calculations, we anticipate the production cost in the U.S. being somewhat higher than what we currently have at the Russian factory. But at the same time, being lower than the current cost of the Finnish factories. So it will most probably come in somewhere in between those 2. Of course, we should also remember that if we had a 4 million tire factory in Russia right now, its production unit cost would be very, very different from what we have right now. Because in our business, economies of scale play a great role and we shouldn't really be comparing a 2 million tire factory with 4 million tire factory with 15 million tire factory. These are very different worlds. But one thing to take into account is that right now, we are spending quite significant amounts of money on logistics costs, shipping the product from Russia and Finland to North America. And these sales have the highest [landed] costs in the whole group just because of these logistics costs, transportation costs and also the import duties, which are 4% for the U.S. and 7% for Canada. And of course, we will be able to get rid of a big part of this logistics costs and fully also get rid of the import usage when manufacture within the U.S. And by -- according our calculations, these savings from these 2 items will compensate the higher production cost at the U.S. factory compared to the Russian factory.

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Henrietta Seligman, [56]

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Okay. And my second question is, will you have space outside of the third factory to extend it if demand progresses sort of positively and above your expectations?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [57]

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Yes, absolutely. The 4 million annual capacity is something that we commit to right now, but we have expansion potential on this site to double this capacity, to triple that capacity and go even beyond that if necessary in the longer term.

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Henrietta Seligman, [58]

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Okay. That's great. And then just one final question, I understand that you can't disclose the details of the incentive package you've got. Can you say for how long the incentives are in place? And secondly, how being in the U.S. might affect your group tax rate? Or obviously, taking into account there may be changes in corporate tax rates in the U.S.?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [59]

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If I start with the second part of the question. Then in our -- this process for us started about a year ago. So even though some kind like political changes can affect our thinking and decision-making, but that was not the underlying cause for this decision in the first place. And in our calculations we don't count on any reduction in the taxation level, corporate tax or other taxes in the U.S. Of course, we will welcome them, but that's not the basis of our decision for this investment. And as to incentives, as I have said unfortunately we are not authorized to disclose any of those conditions based on our agreement with the state.

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Operator [60]

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Our next question comes from the line of Joy Kopcha from Modern Tire Dealer.

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Joy Kopcha, [61]

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My question is regarding the -- what kind of product line this might mean for Nokian in the future. Certainly you are well known here and everywhere for your winter tires. But should we expect to see more all season products with this plant here in North America?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [62]

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Yes, thank you. Very good question. The structure of our current sales in North America is actually both winter tires and all season and all weather tires. We started with these -- when we entered the North American market long time ago, it was mainly with winter tires, but especially during the last few years, we expanded our product portfolio significantly to cover also the much bigger segments of all-season tires for the North American market. And they represent already now a significant part of what we sell in North America and the growth is projected to come mostly from these product categories, because there is quite limited growth in the winter market as such because it has a limited scale in North America. But when we speak about production of the new factory, what we plan to do is to localize production -- production of those so-called North America specific products, which are -- the products, which are exclusively all primarily sold in North American market. That means that they are not sold in other markets at all, like some of our all season models or that are sold mainly in North America and much smaller volumes some light truck tires, for example, sold in other markets around big (inaudible). Maybe it could be good I would like to add our head of North America to comment a little bit about the role of all-season tires have already now in our current sales and in the future and also the feedback from our customers, what kind of expectations they have from us to offer in the all season lines. Tommi please comment.

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Tommi Heinonen, [63]

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Okay. Thank you, Andrei. Yes, like Andrei said our same customers increasing the last couple of years in all season market and that is what our customers have been asking for us and we have been increasing our all season line in North America. And for example, we launched a new U.S. [indiscernible] all season tire, for this season. And then definitely we follow the all season market carefully and there are still some segments in all season where we need to improve our product offering. The other important is (inaudible) light trucks in the North America and then we are strongly growing also on those but like Andrei said, we will never forget the winter business which is very important for us.

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Joy Kopcha, [64]

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If I can follow-up to that. I'm just wondering -- so is there an expectation that your latest or, I guess, next generation of the Hakkapeliitta. Could some of that be built here in North America?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [65]

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That is possible, but because the demand in our sales of so called Nordic winter tires, including studded winter tires, it's much bigger in the Nordic countries and Russia compared to North America. For us, it's not the first priority to localize production of those products. The first priority is to localize these North American products. And we feel at least for a while can continue export it from Finland and Russia some of this Nordic products to North America.

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Operator [66]

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Our next question comes from the line of David Shaw from Tire Industry Research.

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David Shaw, [67]

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A couple questions. The first one is, I missed the expansion in Russia. Did you say you're adding a new mixing line there? Or just adding more capacity to the mixing room?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [68]

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What we're doing is replacing some of the mixing machinery with the one of higher capacity in order to be able to serve the increased tire building capacity of the factory. We decided for -- to go for this option instead of extending the mixing [indiscernible] building new walls, but we saw that as a more economical solution. But in the end of the day, we'll have enough mixing capacity to serve the whole factory of 17 million in all capacity. That's what we are doing.

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David Shaw, [69]

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Okay. Now talking about the [vinyl] chain. From what we've seen, certainly the cheap end of the market, is a transfer of stocks away from distribution and into manufacturers as it's been a bit of price resistance to pay the higher prices. Have you also seen this between Nokian and vinyl?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [70]

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Could you please start the question once again, I didn't get the course of the question?

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David Shaw, [71]

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Okay. At stock levels at manufacturers compared with stock levels at the distributional chain, what we've seen at the lower end of the market is there has been some resistance by the wholesalers to pay increased prices and therefore there is -- we've seen stocks building up at manufacturers and reducing pretty significantly at the wholesale distribution end. And the question is have you also seen that at your end of the market between the sales in vinyl?

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [72]

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Okay. And you're referring to increased prices -- the price increases, which related to this higher raw material costs this year or...

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David Shaw, [73]

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Exactly that.

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [74]

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Okay. Let me try to answer this. Briefly no, we haven't seen this kind of development. Also, I think some of our competitors when they published Q1 results reports, they mentioned that actually the sales in Q1 was mostly to some extent by prepurchases of their dealers and customers in the anticipation of the price increases that could also weaken to some extent their sales in the following quarters. For us, this element is perhaps not as strong because we are mostly in a much more seasonal business, where the pricing around (inaudible) twice a year and then basically the whole amount of tires, which is delivered before the season comes with the certain price level, which is more or less the same for all customers. So we haven't witnessed this kind of development with our distribution, not only vinyl of course, when we not -- -- when we speak about [increasing] our network, it's a biggest part is in Nordic countries, and then we have also some in North America. But also that is true for other parts of the distribution, other customers that we have both branded distribution and independent tire dealers.

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Operator [75]

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There are no further questions registered. I will return the conference back to the speakers.

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Andrei Pantioukhov, Nokian Renkaat Oyj - Interim CEO, Interim President, EVP and General Manager of Russian Operations [76]

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If we don't have any other questions, then I would like to just thank you for your attention and have a nice day. Goodbye.