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Edited Transcript of WDH.CO earnings conference call or presentation 4-Feb-20 1:00pm GMT

Q4 2019 Demant A/S Earnings Call

Feb 11, 2020 (Thomson StreetEvents) -- Edited Transcript of Demant A/S earnings conference call or presentation Tuesday, February 4, 2020 at 1:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* René Schneider

Demant A/S - CFO & Member of Executive Board

* Søren Nielsen

Demant A/S - CEO, President & Member of Executive Board

* Søren Bergholt Andersson

Demant A/S - VP of IR & Corporate Strategy

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Conference Call Participants

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* Christoph Gretler

Crédit Suisse AG, Research Division - MD in Equity Research

* Maja Pataki

Kepler Cheuvreux, Research Division - Head of Med Tech Devices Sector

* Martin Parkhøi

Danske Bank Markets Equity Research - Senior Equity Analyst

* Michael Klaus Jungling

Morgan Stanley, Research Division - MD, Head of MedTech & Services and Analyst

* Nyeok Lee

Jefferies LLC, Research Division - Equity Analyst

* Sebastian Walker

UBS Investment Bank, Research Division - Associate Analyst

* Thomas M. Jones

Joh. Berenberg, Gossler & Co. KG, Research Division - Analyst

* Veronika Dubajova

Goldman Sachs Group Inc., Research Division - Equity Analyst

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Presentation

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Søren Bergholt Andersson, Demant A/S - VP of IR & Corporate Strategy [1]

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Welcome, everyone. Thank you for participating in this conference call held in connection with our annual report 2019 release this morning. The duration of this call will be a maximum of 1 hour, including Q&A.

Today, the company is represented by our President and CEO, Søren Nielsen; and as well as CFO, René Schneider; and the IR team.

I'll now hand over to Søren.

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [2]

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Thank you very much, Søren, and I'll run quickly. We have many things to talk about this time. We will first address key takeaways from the result of 2019, talk a little bit more about IT incident, a little update on various business activities, a little bit latest news. René will give you a financial update, and I'll come back and end with the outlook before we take Q&A.

If we just very quickly highlight the strategic rationale of the group and the structure of the group, we are involved in 4 different business areas, Hearing Devices, Implants, Diagnostic and Communication, all with nice growth rates. And the reason for bringing this up is that as of January 1, the Headset business, the Communication business is now a true and fully integrated part of the group, and we'll start talking more about expected growth rates and market and so on, not fully today, but also at coming Capital Market Day, et cetera.

If we look at 2019 highlights, the key highlight is group revenue growth of 70% despite the significant headwind we had from the IT incident, which we can now conclude is estimated to be DKK 575 million on the sales side, and that leaves 4% organic growth, 2% from acquisition, less than 2% on FX. And if we add back in the estimated headwind from the IT incident, then we would have seen an 8% online organic growth for the full year.

The hearing aid wholesale business, reported, has 5% growth which splits with 8% unit growth and 3% ASP decline due to channel and geography mix, of course, impacted by the IT incident. And underlying our best estimate is we would have seen a 9% underlying growth due to a successful uptake on our new flagship products, Opn S, and the general introduction of the Philips HearLink as well as the introductions we saw in the fall of '19.

4% local currency growth in local currencies and hearing aid retail. This is entirely acquisitions, particularly the larger one we have talked about before in U.S. in the first half of 2018. Underlying growth, organic growth would have been 4%, which is an acceleration from first half, but where we saw this already before the summer. As we talked about at the half year, we saw a building momentum in the retail business, which, of course, again, were significantly jeopardized by the IT incident.

Strong organic growth in hearing implants of 21%, 25% in CI and impressive 18% BAHS. And then diagnostic, with 10% organic growth, particularly coming from strong performance in U.S. The joint venture with German Sennheiser, Sennheiser Communication, saw an underlying sales growth of 12% out of the Sennheiser business. It was mainly driven by wireless products in mobile music. There was a material decrease to the contribution to the Demant Group because the operating profit of the joint venture declined due to negative mix effects and increased capacity costs.

The amount announced at merger, demerger took place January 1, 2020, in line with expectations.

The total estimated negative impact on EBIT in 2019 from the IT incident we now estimate to be a total of DKK 550 million, which is in the lower part of the DKK 550 million to DKK 650 million we previously estimated. We see or anticipate a negative spillover effect on EBIT in 2020 of DKK 100 million to DKK 150 million due to the sales side. Reported EBIT decreased 15% to DKK 2.151 billion, and EBIT margin of 4.4% (sic) [14.4%] due to the significant impact of the IT incident. Adjusted for the IT incident, we would have seen that our best estimate is we would have seen an EBIT result of DKK 2.7 billion.

We have seen a strong increase in cash flow from operation of 17% when we adjust from IFRS 16 and one-off related to Sennheiser Communication demerger. Share buybacks were DKK 946 million close to the expected DKK 1 billion, and gearing multiple, we're normalizing the EBITDA of 2.0 which is within also guidance.

If we look towards 2020, we will see a number of one-off effects related to the consolidation of EPOS and an estimated positive effect on EBIT of DKK 200 million to DKK 400 million, which will be realized as special items in 2020 and is purely a one-off. The same one-off effect will have a negative cash flow effect of DKK 100 million to DKK 200 million. These one-off effects are not included in the guidance.

The outlook for 2020 is naturally a significant organic growth rate above market growth. This is excluding EPOS as it's not part of the base. And EBIT is expected to come in at DKK 2.65 billion to DKK 2.95 billion, with, again, a negative spill-over effect of 100 -- after a negative spill-over effect of DKK 100 million to DKK 150 million. The results generated by EPOS, the operating result is, of course, included and integrated part of the outlook. What is not excluded is purely the DKK 200 million to DKK 400 million positive one-off.

Solid growth in cash flow from operation coming from a bigger result, and, of course, a continued effort to optimize working capital. Free cash flow after acquisitions are to be spent on share buybacks, and we aim at staying in the same range for the gearing multiple of 1.7 to 2.2.

Looking at the revenue side by activity, basically just summarizing what I just mentioned, 5% in wholesale; 0, retail; 25%, CI; 18%, BAHS; 21%, hearing implants; and 10%, diagnostic. If we look at geography, we can see that it was North America and Pacific that were most impaired by the IT incident. North America, across both wholesale and retail, particularly the retail business, which will also, to some extent, suffer from the incident, however, improving every day.

Short update on the IT effects of the IT incident. As I said, we now estimate the total loss related to the IT incident to be DKK 550 million, which was previously estimated to be DKK 550 million to DKK 650 million. Negative sales of DKK 575 million, which is slightly less than the lower part of our estimations. And this is a reflection of a better finish to the year than anticipated and a good strong momentum, in particular, in the wholesale business. Direct cost of DKK 75 million against previously estimated to be DKK 50 million. And it is the production cost that are higher. We saw them being around DKK 25 million in our first estimate. But we can just see, we have spent more money on overtime shipments, getting parts, catching up with shortages around the world. So all in all, DKK 75 million. And then an insurance coverage of DKK 100 million, giving a total effect of DKK 550 million.

And if we put them back into the business, you can see the underlying growth rate in second half in the third column in the table on the slide. 13% in wholesale, 6% in retail. All in all, 10% in hearing devices in second half and CI, 15% -- yes, CI, BAHS and diagnostic not impacted. Especially diagnostic had, of course, a buildup of Opn orders that they have managed to close towards the end of the year.

Negative spillover effect from IT incident in 2020, we expect negative spillover effect of DKK 100 million to DKK 150 million, primarily due to impact on sales. And this is not that we don't see strong growth. We do. But we are not yet at the estimated level of where we would have been if we had not had the incident. And then, of course, in general, plans being impacted by lost momentum.

Then also, which is a change compared to our call in November, we still see in Australian retail-only some negative effect. We're still not doing lead generation at normal level. This has a little bit to do with the structure in the Australian market of delayed from the lead to actually generate to invoicing taking place. And therefore, we are still working hard to fully reestablish the performance of the Australian business. Other than that, there are no more any IT effect on the retail business. And there are no spillover effect on implants and diagnostic as there were no commercial effect in 2019.

Short update on businesses. Looking at the hearing aid market at wholesale level, we have seen strong growth in U.S., in particular, in second half. VA have continued to expand and increase productivity. In the beginning of the year, we saw NHS build up stock, which led to higher-than-normal growth rates in U.K. Germany have done well. France have a change in laser products going into consignment stock and more being invoiced directly. And then fluctuations, in general around the wholesale reform, also delivering solid unit growth. Then Japan have seen solid growth -- unit growth and the same in China, whereas Australia, and to some extent also Canada, have had a very weak development. Australia in the beginning of the year, Canada, throughout the year. Negative effect on ASP from channel mix and of course, competition that, to some extent, offsets the otherwise expected increase of pricing due to rechargeability. So all in all, a maintained picture of a value growth of 2% to 4% and mid- to long-term unit growth of 4% to 6%.

Looking at the hearing aid wholesale business, we saw the 5% organic growth despite the IT incident. And again, you can see here how units and ASP developed in the first half versus second half. Sequentially, the effect was a little less as it was in second half sales to independent and premium sales where the growth was not materializing and therefore of course translating into less -- both less units, but also less positive ASP development in realized numbers.

So really short wholesale through the year, a somewhat bumpy ride, slow start to the year due to a lack -- in particular due to a lack of competitive rechargeable solution. We fixed that. Got new premium platform out. We saw a nice pick up. There was a bit of ramp on -- ramp up on the rechargeable and also net sales were hampered by high returns of legacy rechargeable solution of people that were still in trial. Strong finish to the year, and we really saw that in the business when we were out of supply issues and others, we have seen a very nice pickup in the wholesale business, not the least in U.S. with independent customers. So we still -- we definitely see the business being in a good shape there.

Underlying organic growth in retail of 4%. The focus in the local currencies reported is due to acquisitions and therefore minus 2% organic growth in the second half would have been 6% adjusted, and this was actually the level we saw in the period up to the IT incidents in the past 3, 4 months. So we feel that's a fair estimation of what would have happened.

Retail business largely normalized. There was a significant impact in North America, but which we have passed now. What we now can also see is that the trend where more people are having insurance coverage for their potential purchase of a hearing aid has grown, which means more people are coming into shops with basically a voucher in their hand from an insurance company which limits the product choice and reduce the full invoicing to typically a fitting fee. And the hearing aid is acquired directly from whatever wholesaler, and that of course, lower ASP and organic growth in retail, however, increased similarly, to some extent, the wholesale sales.

You need to adopt to this model and make sure you handle these clients more efficient and more productive. And we have actually seen higher productivity and significant unit growth in own retail, but again, dampened by the overall ASP drop due to more units coming from fitting fees.

Growth in Europe. In retail, across many markets, underlying good performance in France. But countries like Poland, Sweden, Spain and actually a high number of the newer markets we are in, we see very good performance and strong growth. Australia was off to a very good track. And one of the things I remember I keep on -- kept on highlighting for driving growth in second half, but unfortunately, it was the country that was most severely impaired by the IT incident and therefore also have taken longer than expected to come out of.

On implants, again, 25% organic growth in CI, very nice to see. And 18% in BAHS. We are very focused on our FDA submission and will seem to follow time line reasonably well. Saw a little bit delay from the IT incident. And we come with very good momentum in both businesses into 2020.

Continued momentum in diagnostic with 10% organic growth. It come from: Newborn screening; audiometers; balance equipment; also service and disposal will saw strong growth in '19 and expect to continue that expansion. We have also welcomed the Canadian Audioscan to the family, the Demant Group, and after many years of close partnership, and that, of course, will also add to growth in 2020 for the diagnostic group. And again, a tremendous effort in operation and supply chain, and installation, we managed to catch up the backlog created by the IT incident and had a very good and strong finish to the year that we are happy to see.

Sennheiser Communication. Solid growth underlying, a little less in the actual joint venture, the eating off stock inside Sennheiser assume part of -- natural part of the demerger. Main growth was in Mobile segment. We saw a negative market development in gaming headsets after a huge boom in 2018 due to Fortnite. Still nice growth rates in enterprise solutions. The EBIT contribution from the joint venture dropped from DKK 104 million to DKK 66 million, which was a result of mix effects and declining gross margin. We don't think this is long term, but this was what happened in 2019 and then growing capacity cost in R&D and distribution, some of it preparing for the demerger.

The announced demerger was completed late 2020 -- will be completed late 2020, but have financial effect from January 1.

Latest news. We really feel that we stand strong with Opn S. The audiological performance of the product remains to be a key growth driver and the OpenSound Navigator technology is unique in the industry, and we continue to hear very positive market feedback from the performance. With the new rechargeable solution, we have taken a significant step-up and supply a very robust and well-working, well-functioning lithium-ion technology, which has also been an important. This is and continue to be a key growth driver in the market to shift towards rechargeability is happening across most markets and happening at relatively high pace. Why? It's also natural that we now expand our offering in rechargeability by adding mid-priced products in the Oticon brand, under the brand Ruby, has just been started. But it will also come out in the other 3 brands in the group.

If we use the Oticon business as the example, you can see we have new products all over the portfolio, and we have received really, really good feedback on the things we launched in the fall, in the power segment, pediatric segment as well as this new cross solution with Ruby in essential offering rechargeability and Opn S, I feel we stand very strong to join a, of course, competitive market.

We have continued to expand the Philips business. We started out with a major big-box retailer, but have since then continued or more -- it was, of course, set back by the IT incident, but we are now back in full speed. And we have recently launched in a number of Asian countries, including China, where we have great expectations.

Quickly on EPOS, you know the story about the joint venture. You know the transition element. We saw the announcement of the new brand. At the end of last year, we have also now announced that we have done a strategic partnership with a provider of video solutions. We see a growing market for video solutions for small and medium-sized meeting rooms to support an ever more collaborative global work environment. We are a company, example of that ourselves, with multiple locations where R&D people and supply chain people, et cetera, work together. Therefore, the addressable market have significantly expanded for the business by adding video collaboration that we see as actually a very big segment, of course, to some extent, still dominated by players for large installations. But we definitely see small, medium-sized grow significantly in the coming years. And therefore, we still look at a very positive case for communication devices, being video enterprise, audio or gaming audio.

Just a few words on the situation in China. As you're all aware, there is many things changing due to the breakout of coronavirus in China. For us specifically, the closure for the Chinese New Year has been extended until Sunday by authorities. We, of course, follow any guidance and also listen carefully to our local general manager. This only includes our sales office and sales business, which is located in Shanghai.

We mainly have material and components to be sourced in China for our hearing and health care products, whereas EPOS kits, both partly produced and fully produced products in China, and therefore, of course long term, clearly exposed as most consumer electronic companies are. However, as preparing for the general, the closedown of Chinese New Year, we have increased stock and at least short- to midterm seems to be in an okay situation. But, of course, follow it very closely.

And then to you, René, on financial update.

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René Schneider, Demant A/S - CFO & Member of Executive Board [3]

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Thank you, Søren. So referring to the income statement, you'll recognize the 7% growth in revenue, whereas we see gross profit of the company, growing 5%, implying a drop in the gross profit margin of 1.6 percentage point. The majority of this decrease, 1.2 percentage point, is related to the IT incident. And an additional 0.4 percentage point related to, in particular, higher sales of rechargeable products in the second half year.

We also see an increase in the various capacity cost lines that I will get back to in our next slide. If we look at share of profit after tax, this decreases from DKK 134 million to DKK 118 million driven by a lower contribution from the Sennheiser Communication joint venture, whereas we see other associates delivering a healthy contribution to this line. And on other operating income, this is our insurance income related to the IT incident. All in all, leading us to this reported DKK 2.151 billion and the 14.4% EBIT margin.

If we look a little bit more on the capacity cost side, we see an overall increase in local currency of 12%, of which 7 percentage point is organic and 3 are acquisitive. The growth from acquisition is mainly related to retail.

If we look at the development over the year, half years and half years in our table in the lower right-hand side, you would see a significant decrease in the growth rate of capacity cost from 9% in the first half year to 5% in the second half year. And actually, if you look at second half year over first half year, we have seen 3% growth in cap cost, purely driven by acquisitions and the IT incident, thus organically more or less flat throughout the year.

When decomposing our reported EBIT decline of 15%, obviously, the IT incident has the significant negative impact that Søren mentioned before, and it is particularly impacting our wholesale business as well as our retail business. And in addition to this, we had a weak start in the wholesale business and we had the impact of the health care reform in France in our retail business.

Diagnostics contributed positively to EBIT growth whilst continuing to invest in future growth, whereas we have seen a decrease in the contribution from Sennheiser Communication from what was an extraordinarily strong '18 number.

Our EBIT would be DKK 2.7 billion if we were to add back the effect of DKK 550 million from the IT incident.

On this slide, we basically outline all the various components that is part of analyzing the underlying result, being anything from adjustments done in '18 and '19 to reflect a more true underlying business performance, as well as the impact from currency, both on transactions and translation. And if you do this, it will all lead to an underlying growth of 10% in revenue and EBIT of growth of 4%.

2019 has been a strong year with regards to cash flow generation. Actually, our cash flow from operations is up 28% but artificially are positively impacted by IFRS implementation, but also negatively impacted by a one-off related to the demerger of Sennheiser. If we adjust for these 2, we do still see a strong underlying 17% growth in cash flow from operations driven by strong improvement in net working capital. Higher dividends from associates and joint ventures, as well as lower tax payments.

We have seen an increase in the investments in tangible and intangible assets. This is in '19, driven by our ongoing expansion of our headquarters in Denmark, as well as additional investments in refurbishment of retail clinics and also infrastructure for our newly established EPOS business, as well as a smaller effect from our ongoing FDA trial on CI.

If we look at the balance sheet, this is also inflated by the implementation of IFRS and of course also currency and acquisitions, leading to a 22% growth. Organically, the balance sheet is growing 5%. The increase in net working capital, as an example, is 11% due to Senn Com. Without the effect of Senn Com, the net working capital development would have been flat year-over-year. And gearing multiple year-end is 2.0 based on a normalized EBIT.

We have implemented IFRS 16 in 2019 and everything is exactly as we have communicated many times previously and in line with our expectations. So I will skip this in detail. Whereas just -- I think it is important that we spend just 1 minute on the modeling of EPOS into 2020. This is new for us to fully consolidate the EPOS business into the Demant P&L. And what we have done here is based on the reporting numbers from the joint venture, to give a fairly clear guidance line-by-line on what to expect of impact on the Demant Group. And we would say, you should be able to follow this guidance. And all in all, it would lead to a contribution to consolidated EBIT in '20, slightly lower than the DKK 66 million that we have seen in 2019. And this operating profit contribution from EPOS is part of our outlook guidance.

And with this, we are back to the outlook, and Søren?

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [4]

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Yes. Thank you very much, René. And I will try to run through that. We have no expected change to our outlook for market growth in value, 2% to 4% on -- in the hearing aid business on a wholesale level, but also on retail level. Hearing implants, 10% to 15%; diagnostic, 3% to 5%; and enterprise solution and gaming, 8% to 10%.

As René just mentioned, there are -- for special items, EPOS in 2019, and there will also be in 2020. If we start with that, we see a number of one-offs estimated at current state, we are not finished in assessing this. With a positive effect of DKK 200 to DKK 400 million, which are not included in the outlook. They will be recognized as special items. These one-off effects will have a negative effect on cash flow on DKK 100 million to DKK 200 million. And the result generated by EPOS, excluding these one-offs are, of course, an integrated part of the outlook that I'm going to talk through quickly.

On IT, we see DKK 100 million to DKK 150 million negative on EBIT coming from impact of sales. Again, what sales would have been higher had we not had the incident in the fall of 2019. This is mainly related to the hearing aid wholesale business that has got -- not still reached anticipated level prior to the incident, and then some spillover effect in Australia.

Keeping that in mind, the outlook for 2020 goes as follows. Organic sales growth will be significant above market growth, partly due to the negative effect in '19 of IT incident, but also because we expect to gain market shares in all our businesses, a positive effect of just below 1% from exchange rates. Revenue growth from acquisition will be around 1%. And this is what's done year-to-date. We don't know what more can happen. And then that leads to an EBIT guidance outlook of DKK 2.65 billion to DKK 2.95 billion after the negative spillover effect of IT of DKK 100 million to DKK 150 million. The result from EPOS is, as I said, included in this.

We will see solid growth in cash flow from operation. Excluding the negative one-off from EPOS, and we will do whatever we find right in acquisition terms and remaining free cash flow will be used to buy back shares. And we expect again multiple to stay within the guided range of 1.7 to 2.2.

And now let's open for question and answers.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question is from Kit Lee from Jefferies.

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Nyeok Lee, Jefferies LLC, Research Division - Equity Analyst [2]

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I have 2, please. I guess, firstly, just on your guidance. If we look at the 2018 underlying EBIT margin of -- I'm sorry, 2019 underlying EBIT margin of 17.5%, and just looking at the lower end of your 2020 guidance, it does suggest that at the lower end, the margin will contract even after just paying for the dilution effect from Sennheiser Communication. Maybe can you just talk through the scenarios of where this thing will happen for the EBIT to fall at the lower end? And I'll come back with the second question.

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René Schneider, Demant A/S - CFO & Member of Executive Board [3]

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Yes. So whilst we do not guide on margins, as you point out yourself, we have a negative effect from the consolidation of EPOS of roughly 1 percentage point to the group. And then if you look at our wholesale business, of course, one of the elements that is impacting gross margin would be rechargeability, generally speaking, and what is the uptake of that. And then obviously, business-by-business, the composition of gross margins are very different. And thus, the development in each of the businesses allows for various outcomes of the margin.

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Nyeok Lee, Jefferies LLC, Research Division - Equity Analyst [4]

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I guess on capacity cost for 2020, how should we think about the phasing or the level of investments that you have planned for this year? I guess, if we look at 2019, would that be a good proxy for this year as well? Or is that [depressed]?

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René Schneider, Demant A/S - CFO & Member of Executive Board [5]

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If you disregard the effect of consolidation of the EPOS business, then generally speaking, the growth rates organically in capacity cost would be lower than what you have seen in the '19 business, but not significantly.

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Operator [6]

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And our next question is from Martin Parkhøi from Danske Bank.

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Martin Parkhøi, Danske Bank Markets Equity Research - Senior Equity Analyst [7]

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Martin Parkhøi, Danske Bank. Just a couple of questions. Firstly, just looking at your annual report, I can see that when you list your hearing aid brands, you should now put the Philip brand before the Bernafon, the Sonic brand. So should I read this as Philips now is your absolute second brand in the hearing aid business and then maybe you will try to do something differently with Bernafon going forward?

And then secondly, just going back on the gross margin, can you give me some kind of idea of where the direction for 2020? Because there are many moving parts. Of course, the IT impact will give you some benefit due to comps on '19. But then on the other hand, as you mentioned, you have the EPOS impact as well as also launching rechargeable products in the mid-price segments. So how should we expect to see the gross margin move in 2020?

And then finally, and maybe most importantly, as I see it, you guide for this one-off income in connection with implementing EPOS. But I guess, this is a net one-off because since you are guiding DKK 100 million to DKK 200 million loss on the cash flow, then I guess this is more or less a one-off cost that you expect to use on branding EPOS.

So you have adjusted for this one-off in the guidance you are giving. How can that be? First of all, this is a very big number, I think, for our business, around DKK 1 billion. As I recall it from my sources, then Sivantos, only used EUR 10 million to EUR 20 million to rebranding segments to Signia. And then also, I think that you have never booked any one-off costs in relation to building up an Oticon medical brand. You have always -- you are always taking that under the reported numbers. Why are you adjusting for rebranding and launching EPOS?

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [8]

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Thank you, Martin. Let me start with the simpler one of your questions, the ranking of brands is not indicating any strategic priority. Of course, we do focus a lot on getting Philips off the ground. It is believed to have a big potential around the world. So yes, it takes up a lot of time and effort in our business. But as such, you shouldn't attribute anything to the sequence of ranks mentioned. On gross margin, I don't know René, if you have any more to add to what you just said.

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René Schneider, Demant A/S - CFO & Member of Executive Board [9]

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Martin, you point to it yourself exactly that you should expect a lower gross margin next year for the group, primarily driven by the fact that we include EPOS in the consolidation. And secondarily, because of the dilutive effect on gross margin from rechargeability. Those would be the 2 things.

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [10]

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And if I had to do a relatively shorter answer on the cap cost element or the negative, the cost side, which, of course, ride in when there is a negative cash flow, it's also because we spend some money. And yes, they are primarily related to branding, but also a number of other things. And yes, it is a big amount, but also a big range. And I think it mostly reflect that if you do the comparison, 2 for instance, Siemens to Signia, this is -- our industry is very small. It's a small audience. It's B2B.

We are in, with the big boys, in among Microsoft and others, the fairs and so on. We participate on to make sure the brand gets out and known and trusted, and they can see what we do in a totally different scale than you have seen in the hearing aid business. So yes, it is more costly, and it is that type of cost we talk about in building brand that simply the normal activities you do just at an amplified level. And again, especially in the enterprise solution, this is the main driver for it, and it's important we really stand crystal clear in the first year. And we see it as part of the transition. And therefore, I don't think it fully compares to the Oticon Medical, which is an organic growth journey over a long time. And you would say we piggyback tremendously on the Oticon brand, which is for free.

And had it been another brand, it would have cost much more money or if the new OLED brand would have had to be a future, strong brand, of course, the world. We get tremendous leverage from piggybacking and positively also in the image on the Oticon brand. So I don't think you can compare these things. It -- we think it is going to be a significant one-off element in making sure EPOS is a well-known, trusted player in particular the enterprise solution. The gaming world is slightly different and a much more social media and closed forum and audience. So the main part is the enterprise solution.

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Martin Parkhøi, Danske Bank Markets Equity Research - Senior Equity Analyst [11]

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So are these an isolated 2020 events, so we should expect to these DKK 100 million to DKK 200 million in branding costs should basically be out of the picture in '21?

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [12]

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Definitely, the one-off element is this estimate. There will always be cost in marketing and also in '21, and maybe there will be a little left to be done. But the majority and the one-off element we expect in 2020.

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Operator [13]

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And our next question is from Tom Jones from Berenberg.

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Thomas M. Jones, Joh. Berenberg, Gossler & Co. KG, Research Division - Analyst [14]

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I had 2 questions really about North America, really. First of all, the VA, just wondering what your current feelings are about that part of your business. When we might expect to see improvement? What do you think you need do? Whether we'll have to wait for the next product cycle to see a meaningful shift in your share of the VA?

And then the second question was in your geographical growth comments. You didn't say it explicitly, but you kind of intimated that you didn't get much growth in North America on the wholesale side of the business in 2019. What was the reason behind that? I mean the VA numbers we cannot see, but just wondering kind of what's going on in your independent business in North America, kind of normalized for the IT.

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [15]

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Thank you, Tom. Let me first take VA. I think it's obvious to everyone that we have seen Phonak do a remarkable comeback after some weaker period, but it's where they historically was, and they have a very strong in role and position in VA. It's basically across the board. We lose out, but you can see other players have lost significantly more than we have. And I feel -- still feel -- still think Oticon is -- do a great job. Our, let's say, short- to midterm strategy is to benefit from the introductions we did in the fall, which was Super Power, Ultra Power costs. It's a minor segment, but used at all hospitals, and we're staying very strong with these products, and I'm sure we'll get a chance to get them tried out broader.

And then we will have to see if we, on the back of that, can also remember people that always do a really good job. Other than that, it will be future products and so on, that we'll support assumed future growth in the VHM. If I return to North America, generally speaking, Canada have not been a good market in 2019. We have basically seen a flat to slightly negative market development, which, of course, has been felt by both wholesale and retail. In U.S. on wholesale, if we talk about adjusted, eliminating the IT incidents, I'm absolutely sure we would have seen a very strong growth in the U.S. business, in particular, in the premium segment with independent customers because that's exactly what we have seen now in the later period coming out of the IT incident.

We saw it picking up prior to. We saw the reason why we couldn't see it in full effect was the returns of the past technology that tailored off. I'm absolutely sure we would have seen a totally different picture for our U.S. wholesale business have we not had the IT incident.

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Martin Parkhøi, Danske Bank Markets Equity Research - Senior Equity Analyst [16]

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Okay, perfect. And then I just have one follow-up question on the gross margin. With you launching rechargeables at the lower end of the price spectrum, one would assume that the cost of rechargeability doesn't vary, whether it's a premium or a value-type product. So should we expect a kind of proportionately higher gross margin impact from the launch of the lower-priced products than we saw at the premium end of the market?

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [17]

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It's always difficult to predict the future and how competition will react. We anticipated that we could grow pricing on rechargeable by taking a surplus. In the premium segment, we have to realize that due to the higher margin, this has been used to gain share, meaning you could get discount if you committed to a significant buying of premium products.

This, of course, changed in the lower prices. You have to be more aware, the same as for many years has been the case for custom products that are typically more expensive compared to the BTs in the mid-range because you're much closer to cost. So I once again plan to try to charge extra and more explicitly charge extra. And we'll see less discount around rechargeability in the mid-price. But again, the market will tell you, but that's our plan.

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Operator [18]

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And our next question is Veronika Dubajova from Goldman Sachs.

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Veronika Dubajova, Goldman Sachs Group Inc., Research Division - Equity Analyst [19]

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I'll keep it to 2 as well. Can I just follow-up first off on Tom's question? Just trying to understand how you're going to price the rechargeable mid-priced product. What's the premium that you're hoping for versus a nonrechargeable? If you can share some color, then that would be helpful.

And then my second question is actually on some of the comments you have made around managed care and the impact that it's having on the business, both on the wholesale and the retail level. It'd be helpful to understand how large you think that is as a channel today. And as you think about your retail footprint, how penetrated? How far have you seen managed care reach into the business? And is there more margin compression we should be thinking about in 2020 as a result of that?

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [20]

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Yes. I cannot comment specifically on the pricing. This ends up being whatever the market tells you the pricing will be. But yes, we will try, and it varies a little bit across the world. Extra at least covering, but also more the cost of goods sold coming with rechargeability while at the same time, of course, using scale to make sure we become more efficient in producing and see improvement of cost of goods sold. So there's a number of moving parts and I cannot be specific at what surplus you will see that will vary from market-to-market.

On managed care, it is a trend that these third-party administrators offer insurance companies to add hearing services to their program for a minor payment. In reality, the entire payment remains to be the end user. However, they use, you could say, the insured group as a bargaining power for the fitting fee size as well as the hearing aid pricing.

On the wholesale side, the pricing is not very different from what other organization can do. There's a long tradition for value-added services in U.S. and at wholesale level, it compares very much for that. And you could say, well, then it will basically move from one channel to the other and the effect is more margin. But of course, on the retail side, there's a big difference between receiving a fitting fee and receiving the full invoice level. The first thing you lose is actually the hearing aid value part, but then also, you have been squeezed a bit on the margin. On the other hand, I'm very convinced that the reason for the strong market growth in the private sector in U.S. in 2019 is also that there are more marketing activities going on towards this channel. We have seen quite a solid unit uptake in the shops that have significant market -- managed care which indicates that there's somebody pushing and getting users to enter the market prior to then what they would have done before.

And therefore, there's both a extra inflow, I'm sure. There is less effort to be done in selling. They are basically presold and have a voucher of some kind in their hand. Of course, some regret, but they can see they get a better price than they would have if they have private paid themselves. So I think it's a little bit like a Costco channel that it shows growth. The ASP is lower, but it potentially over time, adds more to the market than it takes out. But we, of course, have to follow this very carefully. How it develops, but there's still a very significant part of the American population that work under more private insurance, where it's a full coverage by the insurance and you still buy at full retail level. It is mainly these third-party administrators that go to this fitting fee model. And that we have seen grown significantly in 2019.

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Veronika Dubajova, Goldman Sachs Group Inc., Research Division - Equity Analyst [21]

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That's great. And can I just squeeze in actually one final question on Sennheiser? Just curious, so on René, how you're thinking about the margin progression beyond 2020? I guess, a 5% margin business or thereabouts seems fairly underwhelming. What do you think you'd need to do to bring that margin higher? And what's the time frame for that? And that was my final question.

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [22]

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So, 2 things. Of course, we need to have a improved product mix. Again, I'm sure, with the pipeline we have, that will happen. There's a lot of scale. When we take over, split the joint venture, we have a significant R&D capacity in Denmark. And if we should have been very squared, then we should have reduced R&D. Now we only have part of the business. But we know that over the coming years, we need those hands anyway and also short-term to really make sure we can grow. So we keep them, of course.

We don't add more, but we keep them. And that in itself is margin dilutive on the business as the extra sales coming in is very low margin. The front end, you could say, of the value chain on the safe company side. So I'm absolutely sure that scale growth will -- better product mix, better ASP will help get the margin back up where it should be and where it historically have been.

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Operator [23]

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And our next question is from Michael Jungling from Morgan Stanley.

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Michael Klaus Jungling, Morgan Stanley, Research Division - MD, Head of MedTech & Services and Analyst [24]

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I have 2 questions. Firstly, on product cycle, can you talk about how you feel about Opn as a product cycle to drive growth over the next 12 months? A key concern that I have is it's now 4 years old in a way before the DSP was launched in July of 2016 and things have moved on, hence, the question. And question #2 is on the ASHA standard for Android. Can you comment on when Opn will receive the ASHA/Android's connectivity connection, please, to the phone?

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [25]

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Thank you, Michael. I feel very comfortable about the product life cycle of Opn S. We have seen a significant strengthening of the product concept, both due to the improved audiological benefits, but in particular, the rechargeable solution added. And I see growth every day, and I think the product do well. So we are not at the end of the cycle.

I don't see it as a 4-year cycle. I see it as a 3-plus-1 year. It is exactly a year ago since we started the launch, and it still holds a lot of strength. And the marketplace has also been relatively stable. So nothing have really changed. And I definitely see we can drive growth on Opn S. When we can support an ASHA protocol and in what way, I have no further comments, too. That lies for the future, and we will tell when we can do that.

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Michael Klaus Jungling, Morgan Stanley, Research Division - MD, Head of MedTech & Services and Analyst [26]

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Can I just follow-up on the ASHA standard? What is the biggest bottleneck for you of launching it? Are you waiting for more handset manufacturers to launch it? Or is something else that you need to do to make it work?

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [27]

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We obviously need to do something on our device to actually support it. And when that is ready, we will support it, but I cannot give you any further flavor and details now.

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Michael Klaus Jungling, Morgan Stanley, Research Division - MD, Head of MedTech & Services and Analyst [28]

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Okay. And then maybe finally, on OTC. Can you comment on what the most recent update is with respect to the FDA on launching the draft regulations for the OTC category?

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [29]

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We have no news.

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Operator [30]

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And our next question is from my Maja Pataki from Kepler Cheuvreux.

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Maja Pataki, Kepler Cheuvreux, Research Division - Head of Med Tech Devices Sector [31]

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I'd like to stick to 2. Søren, would it be possible for you to kind of elaborate it on the thinking process when you were, like giving us the underlying growth rate in wholesale and retail? I think it's fairly straightforward in retail as you have the experience of how many products you can sell per week. But when it comes to wholesale, were you really looking at mainly missed product sales by existing customers? Or was there baked in quite a bit from accessing new customers? Just to understand when you talk about momentum, how do you think about it?

And then the second question is, just given your comments about the U.S. managed care impact on pricing and retail but also in wholesale and your larger acquisition in the U.S. retail side, I was wondering if you could give us a bit of a color of how much U.S. retail accounts of your group revenues has passed 10%? And how much of your U.S. retail business is actually exposed to that managed care business where you see the fitting fee being the impact in ASPs and retail?

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [32]

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Thank you, Maja, your line was really bad. So I'll try to make sure I have the right questions before starting answering. I heard you say if I could elaborate on how we estimate the wholesale impact of the IT incident as you could see it being easier to estimate on the retail side; and secondly, on managed care and U.S., how we are exposed to the effects and then also asking me to confirm sizing of our U.S. retail. And I can start with the last.

We're not specific on that. So I don't have more flavor to add to that. When we look at the wholesale estimate, it is a combination of things we didn't sell because we couldn't and people went somewhere else and bought something. And then really looking, of course at the growth plan and also what we can see happening before and after the IT incident, and it is our best estimate that this -- what we state here, the DKK 575 million lost in sales, where the majority is in the wholesale or slightly more than half is in the wholesale, that is exactly what would have happened had we not had the incident.

When I said that in November, we need to see November, December at full before we can judge. And what I have seen in that period confirms that what we have is competitive, we will and would have been able to gain new customers and gain traction. We have seen a end to the all proportionately high returns of past recharge methodology, et cetera. And based on these different elements, this is our best estimate.

On the managed care, it comes out very differently across geographies and sections and areas, so I don't have much more to add than what I answered just before except there are some stores in areas where they have been totally focused on driving things through normal advertisement, et cetera, and others receive a significant proportion of managed care. It's not fully clear yet whether that's the market split or whether that has to do with the model and some of the things we, of course, look very carefully at. Reasonably well answered your questions. It was, as I said, it was very difficult to actually hear what you asked.

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Operator [33]

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And our next question is from Chris Gretler from Crédit Suisse.

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Christoph Gretler, Crédit Suisse AG, Research Division - MD in Equity Research [34]

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Yes. I actually have just one question left. I was surprised by your ASP growth in the second half. Now this minus 1%, given that you had higher rechargeable mix percentage. Could you discuss that and maybe also break that down into a true price, like-for-like price and a mix effect?

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [35]

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Yes. Thank you, Chris. That is exactly the lack of growth in -- with independent and premium, which was most hampered by the IT incident. The bigger players, they have a fewer locations that you supply to and you quickly fill that hole. So what we have really fight it with, and you could say, lost in fall was the opportunity to gain new share and really kicking out Opn S and getting that mix effect.

So as I said, had we not had the IT incident, I'm sure we would have a few more units, but not as much, and then a very significant effect on the ASP exactly. And that's the predominant component in the minus 1%. Then, of course, always has a little bit to do with the comps and how things were the year before. But you would have seen a significant higher ASP effect, had we not had the IT incident.

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Operator [36]

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And our next question is from Sebastian Walker from UBS.

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Sebastian Walker, UBS Investment Bank, Research Division - Associate Analyst [37]

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Just one from me, please. So given the IT incident, I just wanted to ask...

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [38]

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Can you speak a little louder or move closer to your phone? We cannot hear you.

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Sebastian Walker, UBS Investment Bank, Research Division - Associate Analyst [39]

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Hello? Can you hear me better?

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [40]

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Thank you, Sebastian.

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Sebastian Walker, UBS Investment Bank, Research Division - Associate Analyst [41]

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Hello?

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [42]

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Hello. We can hear you.

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Sebastian Walker, UBS Investment Bank, Research Division - Associate Analyst [43]

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Great. So, yes, I'm sorry about it. Just for -- 1 from my side, please. Given the IT incident, I was wondering whether you're still comfortable on delivering on a typical 2-year product cycle for your next product launch.

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Søren Nielsen, Demant A/S - CEO, President & Member of Executive Board [44]

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Well, I cannot comment on that. Of course, R&D also lost some time and momentum, but you can reprioritize and so on. So after a while, it becomes a little blurred, whether it's your own changes you fight or whether it's something coming from delays in IT. You always work on solving unforeseen issues when you do R&D. That's also the case here now, and we cannot comment on when we come with the next-generation.

I think the key message is we are very comfortable with what we have, a very strong portfolio, recently updated now on all parts, responding to a strong call from all rechargeable options in the market. The core of the products, all our products on the audiological side performed extremely well, and we have it in 4 brands and so on. So we feel we are in a good position in the cycle.

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Søren Bergholt Andersson, Demant A/S - VP of IR & Corporate Strategy [45]

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Okay. Thank you. This concludes today's call. I'm sure we could have continued for another 30 minutes, but feel free to reach out to the IR team or directly to René and Søren.

Thank you very much for listening, and have a great day.