Abb Ltd (ABB) 2012 Q1 法說會逐字稿

Ladies and gentlemen, good afternoon. Welcome to the ABB first quarter 2012 results analysts and investor conference call. I am Stephanie, the Chorus Call operator.

I would like to remind you that all participants will be in listen-only mode and the conference is being recorded. After the presentation, there will be a Q&A session. (Operator instructions)

At this time, it's my pleasure to hand over to Mr. Joe Hogan, CEO of ABB, and Mr. Michel Demare, CFO of ABB. Please go ahead, gentlemen.

Good afternoon, and thanks for joining us to discuss our first quarter 2012 results. As always, my comments in this call refer to the presentation available on our website at ABB.com.

Please refer to chart 2 for our Safe Harbor statement, covering any forward-looking statements we may make today.

Let me start with a summary of our first quarter performance on chart 3. The first highlight in the quarter is the strong performance we showed on top line, despite the tougher market environment, compared with a very strong Q1 a year ago. Orders are steady, up slightly in local currencies, and flat year on year, excluding the Baldor acquisition, while revenues are 8% higher, up 6% on an organic basis.

The Americas showed strong growth, especially North America, which helps us offset weaker demand in China and southern Europe. I'll come back to the regional picture in more detail in a moment.

We've been working hard to grow the Services business, and this quarter, we saw some results, and Services outgrew the Group on orders and revenues. As we guided after Q4, we saw continued price and mix pressure on operational earnings. We can mitigate some of these through the cost savings and positive effects, but with increases in selling and R&D investments this quarter, we saw a decline in operational EBITDA margin.

Cash flows were lower, as we saw a seasonal increase in net working capital in the divisions, as well as some higher cash outflows from the corporate in areas such as hedging and pensions.

Net income was higher than a year ago. And last but not least, our recent Board issues were very -- our recent bond issues were very well received in the market, and we were able to secure long-term financing at attractive rates, which gives us additional financial flexibility going forward, while maintaining our balance sheet at a solid A credit rating.

Chart 4 gives you an overview of the key figures for the first quarter. Revenues were higher in local currencies and organically, supported by execution of the order backlog, which reached a new record of almost $30 billion. Our cost savings program generated savings of $260 million this quarter. And you'll see in a later chart, this again more than offset the pricing pressure.

Baldor continued its very strong performance, and contributed more than $500 million of revenues this quarter, and delivered operational EBITDA of more than $100 million.

Moving to chart 5, where you'll see an overview of results by division, Power Products turned in a good revenue performance with growth in all businesses. Discrete Automation saw great growth, both including Baldor, but also organically, with sales up 15% excluding Baldor. In addition, DM's operational EBITDA margin improved compared to Q4.

The year on year margin decline is mainly a reflection of higher levels of investment and growth initiatives, and mix weaknesses versus same quarter last year, when demand was strong for higher margin products like low voltage drives. Nevertheless, it was an excellent quarter for DM, and the outlook for the rest of the year in this business remains very positive.

Low Voltage Products also reported higher revenues, mainly due to the execution of an increasing level of systems projects in the order backlog. This also impacted LP's operational EBITDA margin, and I'll come back to that in more detail shortly.

Price pressure in Power Products remained where it was in Q4, at about 4% to 5% on orders, and 5% to 7% of revenues. It will take several more quarters to work our way through these declines. But in the meantime, we continue to push hard on costs and productivity savings, as well as launching new products that open growth opportunities at margins that support our longer term targets.

As for Power Systems, revenues were more or less stable versus a year ago, which is mainly a reflection of the mix of projects and the timing of their execution. As you know, this tends to be a very lumpy business on both the top and the bottom line, and we saw that again in the division's Q1 operational EBITDA.

Let me take this opportunity to comment briefly on the many questions we received recently around the risk in the Offshore Wind business, which we serve from our PS division. As we said in Q4, this is a new field with new technologies, and therefore, an inherently higher level of risk. You can expect to see charges and provisions, both up and down, as we work our way through these large and complex orders. But as of today, we haven't seen any material changes.

Our expectation is that Power Systems will come back to more typical, longer term margin levels as we progress through 2012.

Finally, Process Automation continued to deliver steady revenue growth and profitability. This business has done a great job in refocusing its services offering, expanding its product portfolio, and executing well on project and risk management. Its resilient end markets in areas like oil and gas, and mining, have also contributed to the overall stability of results. And the outlook in these sectors for the rest of the year looks positive.

In chart 6, let's take a look at some regional developments. As you might expect, order growth was strongest in the Americas, led by North America, where we're seeing good economic growth. Even excluding Baldor, we saw local currency growth above 20% in the Americas, thanks mainly to the continued strength in the Power businesses.

Orders were lower in Europe, but here, we see a clear, two-track development between northern and southern Europe. I'll come back to that on our next slide.

The Middle East is up slightly in the quarter, as we took some new substation orders. As you know, we've been very selective in this large market in the face of strong price pressure.

Today, we're seeing stabilizing prices, and even some increases, and that allows us to go after new business at acceptable margins. Asia orders were down 11% in the quarter because of lower orders in China. As you may recall that last year in the first quarter, we won some large transformer orders in China, in addition to recording strong order increases in most of our divisions. So the comparison was always going to be a tough one. However, demand in key markets by construction and real transportation remains low, and we see that in both the top and bottom line.

Let's drill down a little further on order growth geographically with chart 7. Here, you can see the orders development in our largest country markets. I just talked about China, where orders were down in both Power divisions, as well as Low Voltage Products, but were higher in Discrete Automation and Process Automation. We'll do a deep dive on China in a moment.

India improved mainly on strong growth in Power. Americas did very well this quarter on all fronts, in line with the solid economic growth in the region. I also mentioned the Middle East improvement, and that's largely the result of substation orders in Saudi Arabia, which has become a key market for us with revenues in 2011 of more than $1 billion.

As in Q4, Europe showed a mixed picture. Germany, Sweden and the UK, for example, all showed decent growth in the first quarter, while our largest Mediterranean market, Italy, was again down strong double digits. A recovery in demand in Italy will obviously depend on the improvement in the overall confidence in the weaker Eurozone countries. In the meantime, we are making cost adjustments to mitigate these weaknesses, and reduce the negative impact on margins going forward.

Let's take a closer look at China, on chart 8. As you saw in Q4, weak demand in China had some impacts on operational profits again in Q1. In fact, more than half of the total gap in operational EBITDA for ABB, compared to Q1 last year, comes from China. The bar charts show you some of the main reasons for this development. Demand in the construction sector, for example, was a near historic peak at the beginning of 2011, but fell off sharply over the rest of the year. Since some 10% of LP's revenues are related to the Chinese construction sector, and high margin products like breakers and switches, this downturn had a significant impact.

It's a similar picture in rail, where China's the largest market for our MP business, and while some positive trend lines appear to be developing in these sectors, we're taking a cautious approach, with short-term mitigation around cost savings and footprint adjustments, while at the same time, accelerating the development of localized products for China that allow us to increase revenues at more attractive margins.

Turning to chart 9, here you can see the mix impact we're talking about in Low Voltage Products. This has both a business and a geographical component. The business mix is related to the share of revenues coming from the Low Voltage systems unit, which typically carries a significantly lower operational EBITDA margin than the other businesses. That share is up by 5 percentage points compared to a year ago.

On the right side, you'll see the geographic mix impact, and how the share of revenues has declined in countries where margins are typically higher, either because of the type of products sold in the market, or because of the pricing levels in these countries. We have flagged Italy and China, which are two large markets with typically higher margins for LP. Both saw significant revenue declines in LP this quarter. These are two countries together, normally comprise about 30% of LP's revenues, and you can see how they are now below 25%.

This development highlights the importance of our planned acquisition of Thomas & Betts, the US low voltage equipment maker. T&B will diversify our geographic scope in LP, provide a natural hedge against the local fluctuations that are typical in this business, and it will bring us new products to expand our Low Voltage portfolio, both in North America, but also in the rest of the world. We remain on schedule to complete the acquisition in the second quarter, and we're looking forward to growing our portfolio in this key area.

Let's turn to chart 10, and our quarterly operational EBITDA bridge. Working from left to right, you can see that first of all, that we have continued to see price pressure in the P&L, again, mainly the result of delivering lower priced products and projects out of the order backlog. That had a negative impact of $250 million, or just under 3% of revenues, which is a sequential improvement compared to the fourth quarter. Again, this is mainly in the Power division. We could offset this, however, through volume effects, as we increased revenues and saw improved absorption of our fixed costs.

Project margins were slightly negative in this quarter, but we again saw strong execution of the cost and total savings about $260 million. Growth in investments around sales and R&D were higher this quarter. These are relatively low levels a year ago, and started to ramp up more in the second quarter of 2011.

Then we have the product and geographic mix effect I described in China in LP. And finally, we have the Other category, which is the mix of mainly currency translation effects, changes in G&A costs, and raw material costs.

So overall, to continue to more than offset pricing pressure through cost savings, while maintaining our investments in future growth.

Turn to chart 11. As I just explained, we again were able to take out significant costs in the first quarter, mainly through sourcing and productivity improvements. Again, the Power divisions have taken the most aggressive measures to mitigate the price and capacity issues they have been facing. But the Automation divisions have also been successful. Savings in indirect sourcing, such as travel and contracted services, have also contributed some $26 million to the bottom line.

As those of you who have followed us for some time now know, our Q1 is historically a weak quarter when it comes to cash flow -- and I'm moving to chart 12 -- especially when we are growing revenues and ramping up working capital in our project businesses.

On chart 12, you can see a similar trend, and at the divisional level, we are actually $100 million lower versus Q1 last year, as net working capital reached almost 16% of revenues. We have measures in place to improve our net working capital performance, and we see this trend normalizing over the year as we return to the 11% to 14% range that we've guided to over the long term. Additionally, this quarter, we saw higher cash flows out of the corporate line in the form of cash payments related to hedging, as well as pension contributions.

Chart 13 gives you a quick summary of our balance sheet at the end of Q1. We're still in a net cash position with growth gearing at a comfortable 26%. We received an enthusiastic reception from the market to our bond issue this quarter, which allowed us to secure additional long-term funding at relatively low rates.

We also put a $4 billion bridge loan in place to take us through the T&B transaction, and to pay our normal dividend. The success of our bond activities means that we're able to reduce our commitments under this facility down to about $2 billion at the end of this month.

Before wrapping up, I'd like to highlight a couple of other developments in the quarter. Chart 14 shows the growth of our services business in the quarter. As I mentioned in the beginning, we executed well on our service strategy, and we're seeing some early wins. Services outgrew Group orders and revenues, with particular strong growth in Lifecycle Services, which is the reoccurring maintenance and spare parts type of service that brings in about -- comes in above average margins.

Here you can also see the impact of our refocusing efforts in full service, to reduce the volume of projects in sectors with limited value added or margin from a total ABB perspective. That is all reflected in a decline in service orders in PA in the quarter.

But everywhere else, we saw very good growth in both service orders and revenues. We have also seen excellent progress with the special initiatives we've launched last year in a number of product countries, and we've rolled that out now into a larger group to capture this huge opportunity.

So, some encouraging signs in this business, which is key to achieving our growth objectives, as well as bringing greater stability and reliability to earnings.

Then on chart 15, I'd like to highlight our efforts in new product development. I just picked out two dozen -- I just picked two out of a dozen of new products launched in the first quarter to illustrate how our investments in R&D are helping us on both growth and costs.

For example, if you visit the Hannover Trade Fair this week, you'll see our new GIS product that is 33% smaller than its predecessor, more energy efficient, and environmentally safer. That not only opens up a new growth opportunity in terms of meeting customers' needs, but also means we can tap our competitive advantages in design and economies of scale to produce this equipment more cost effectively.

Our DM division has launched a new version of the synchronous reluctance motor introduced at the Hannover Fair last year. This year, we have taken the development further, to sell a complete high output package, including a drive and controlling software. It gives customers the same performance in a much more compact size.

That means, for example, lower costs for our OEM customers who are bundling our equipment into their products, as well as more cost effective manufacturing for us.

As I said at Capital Markets Day last year, managing for both cost and growth will be one of the main challenges going forward. R&D will be a key lever for achieving that balance.

Let me conclude on chart 15 with a recap of Q1, and our outlook for the rest of 2012.

Again, we saw good top line growth in a challenging market environment, and especially considering a tough comparison to a great Q1 a year ago. Our market-leading technologies, broad geographical scope and record order backlog all contributed to that performance. Discrete Automation and Motion and Process Automation performed well on operational EBITDA, while pricing pressure in Power and cyclical mix issues in Low Voltage Products continued to dampen margins, as we expected.

But we're taking measures to mitigate these impacts, whether it's through cost savings, new product development, or in strategic acquisitions like T&B in the US. And I just mentioned, we continue to work from one of the strongest balance sheets in the industry, which gives us confidence to build the business even during uncertain times.

On the outlook, not much has changed compared to what we told you at the end of Q4. Our long-term view remains very attractive across the portfolio, around the themes of industrial efficiency and productivity, energy savings, and grid improvements in all regions.

In short-term, we still have mixed European market with relatively resilient economic developments in northern Europe, offset by weaknesses in the Mediterranean region. North America continues to look positive on both the Power and the Automotive fronts, while China remains an open question as far as the timing of new investments in key sectors for ABB like construction.

For the rest of the year, we expect revenues in our early-cycle businesses to remain near 2011 levels, or to grow at low single digit rates, while our mid- to late-cycle businesses will continue the growth we've seen in recent quarters.

We'll continue to see price pressure in the P&L as we work through our backlog, and as long as the mix issues we've seen in the past couple of quarters persist. Having said that, we also believe there are plenty of opportunities to support both revenues and operational earnings, and margins over the rest of the year. And we can, with confidence, confirm our growth and profitability targets.

That concludes my formal remarks. I'd like to thank you for your attention, and turn over any questions to Michel and me. Thank you.

We will now begin the question and answer session. (Operator instructions) First question from Daniela Costa from Goldman Sachs. Please go ahead.

Good afternoon, everyone. I have a few questions. The first one would be, can you just update us, where are you on your (inaudible) targets? So, the return on capital? And what gives you -- what's the trend for this year, and what gives you confidence that the target in 2015 is still achievable?

Then, the second question. When I look at the bridge this quarter versus last quarter, and what you've said, it looks like the mix and the pricing impacts and cost savings were pretty much in line with what you had guided for. So it looks like this Other portion is the bigger differential versus, at least, what consensus had. So what is the visibility there, in terms of not having or having these costs as you go forward in the year? And if you can, how much each of the effects, commodity, G&A, how much each portion is?

And then finally, on cost savings, seem to be compensating for price. But if mix -- if negative mix persists, given the uncertainty around China, would you be able to step up the cost savings to compensate for that? Thank you very much.

Okay. Good. So, starting with your first question on the cash return on invested capital, for the moment, we are far away from the 20% target that we have said, but I'd also say that these targets that we're aiming to reach when we have kind of absorbed the initial cost of making an acquisition, so for the moment, the combination of digesting the Baldor acquisition and some of the others, for us, the fact that it's a low margin quarter, as we are used to in Q1, makes the total cash return on invested capital, it's always close to 12% at this stage.

We're still confident, you know, that we can work on these investments in time, and get back to the kind of margin, the kind of returns that we have had before, because we were always above 20% before starting the acquisitions. And as you know, we have done a few good ones. So I'm still quite confident that by 2015, this can turn around. But here, for the moment, we take the dual effect of taking the full capital charge for Baldor, plus the fact that the overall level of margin is not that high.

When we come down to the bridge, no, I would not say that Other is the one that we had not foreseen. Let's say, if you look into the Other, it is clear that this quarter ForEx translation has been a bigger component than usual. If you look at where the US dollar has fluctuated versus other currency compared to the first quarter last year, we've seen a huge volatility. The US dollar, for instance, has strengthened 11% against the Indian rupee, 6% against the Brazilian currency, about 4% against the euro. On the other side, it has devalued against the Chinese currency, it has devalued against the Swiss franc. So it was a little bit all over the board.

And so it is clear that the full revaluation of some of our costs that we have had in India and Brazil, but also, for instance, the impact of the decline in profitability in China has been exacerbated by this currency impact. But if you ask what surprised us compared to the guidance that you gave us, I would rather point out the weakness of the Medium Voltage business in China, for instance, and the fact that the Low Voltage business in China was even weaker than we had anticipated.

So don't forget that most of the heads up we give you was by analyzing our backlog. Medium Voltage and Low Voltage are not backlog products. These are book to bill products that hit you right away.

And then, cost savings, Michel? I can handle that. You asked about, Daniela, about the mix aspect and how that will be compensated. I mean, obviously, we'll try to drive the cost aspect as hard as we can. But we still -- this mix piece, particularly within the Low Voltage business, will take actually more cost focus in that area. But we can't respond -- you know, right in accordance with what we've seen in the marketplace.

So overall, we'll fight mix specifically in Low Voltage products, I think, for the rest of the year.

Okay, thank you. Just one follow up on China -- the point in China. Just a few competitors have said they expect a better second half in Asia. Why you're not confident at the moment to give similar statements? Is because of your end market, specifically? Thank you.

Yes, I think it's a different segmentation. I think we could say that about most of the industrial segments. The question that remains more is, how long will it take before China let the real estate market develop again? You know, they are only trying to contain the bubble at this stage, so that is a specific one. And I would say the same for the rail market. You know, rail transportation market where clearly, there's a little bit of change of strategy.

So that one is more a question mark to see how long it takes to come back, while the plain industrial activity, we expect, based on the Chinese official forecast of GDP at 8.5%, we're expecting (inaudible) that one will (inaudible) fast.

Thank you very much.

Next question from Mr. Ben Uglow from Morgan Stanley. Please go ahead, sir.

Hello, good afternoon.

Hey, Ben.

I had a couple of questions. One was just, in terms of the cost savings, I see that the cost savings continue to be primarily from sourcing and operational excellence. What I was wondering was, when you look at the landscape for 2012, and you look at the operating conditions, what sort of conditions would be necessary for you to entertain a proper adjustment in industrial footprint? I.e, are we getting to the point where you need to focus more on your -- sort of existing capacity, or are you comfortable that you can continue to offset price with sourcing and operational excellence? And that was question number one.

Question number two is a much more general one about the capacity situation in transformers. It's very difficult for us to get any meaningful data, really, on this, or even to understand what is happening to supply and demand in the industry. And, what I would say is when I look at the investments being made by Mitsubishi, by Hyundai Heavy, and also SPX, what's clear to me is that whilst demand is going up, so is supply.

And are you -- you know, either Michel or Joe, are you able to give me just a rough idea of what is happening to capacity in your factories? Is capacity utilization improving at all at -- or are we actually seeing just a low level of utilization continue to impact price?

You know, Ben, first on the cost saving side -- Michel, you can join in where you want to, sourcing versus OpEx. You know, you have to understand that we -- a lot of our footprint changes, we make continuously. We don't do large announcements (inaudible) because as we've explained before, how you work through unions, particularly in European area.

But I could say what we constantly do, and we do this year, is adjust our footprint. Our biggest footprint adjustments have been in PP over the years. Underneath this, what you don't see is a lot of movement in times where we won't close a factory specifically down, but we'll move a lot of that production capacity from one region to another. Okay? With a certain amount of layoffs, obviously, in the old exporting region. But it wouldn't necessarily be an entire plant shutdown, because we try to keep that capacity allocated to that local region.

And so that would come off, as honestly as -- not necessarily as a footprint. That would come off as OpEx, from a productivity standpoint overall in those figures.

So there are some grey areas between those numbers that aren't as clear in the sense of what is footprint and what are (multiple speakers) --

Yes. Last thing is, when we take footprint decisions, it takes much more time for these savings to start hitting the income statement, too, because it's a long process. And you know, you always try to optimize as much as you can. For instance, we have reduced some capacity in China, but we have not closed the factory, and we have transformed it into a service workshop. So, in a way, you're not taking as much cost out, but you create a new opportunity to generate different types of revenues, more resilience, and more stable margins. And it's why you don't always see these numbers coming very clearly out of the statistics that we publish here.

So it takes a little bit more time to come in, but there are some programs, we have made some closures, and seeing it move in the right direction, and always ready to do more if needed.

Okay, thank you.

There's a big labor piece on that side, and remember, these facilities aren't real expensive facilities, and we shut down at times, (inaudible). It's not like a chemical facility or anything like that. Their operating basis is [$50 million to $90 million] or so.

On the transformer capacity piece, you know, I share your frustration, because when you try to get any kind of industry understanding of that, you get stuck, because it's not real clear, and you get stuck between what's a large power transformer, what's a medium power transformer, and how that works.

But I can tell you that our capacity utilization rates have improved, or at least, stabilized. What we do often is when you see a job like Northeast Agra that comes through, there's a number of high voltage, large transformers that are HVDC in that sense, and they'll pick up a significant amount of capacity in Sweden and different parts of the world where we'll make those things.

And so we have a -- kind of a different mix at times within those facilities, based on how we pull these jobs geographically, and then some of the uniqueness that we offer out there through our systems business because of HVDC in those areas.

But obviously, right now, now what's affected the marketplace, there are a couple things. One is the legislation in the United States with the dumping suit recently that's affected the Koreans pretty dramatically in the United States, and so we've seen prices certainly stabilize there. And that whole suit is moving on to Canada now, and so that changed the market, to a certain extent. You know, and --

There's still significant overcapacity of that, it is quite clear. But I think all the investment that you mentioned in the US, I think a lot of the premarketing of these factories has always been done, so the worst in terms of price push has probably come true. And again, I think that if Medium Voltage had held steady, like it used to do in the past, we would have been able to show a better profile of a Power Product portfolio this time than we were in the past. So it's really the Medium Voltage now that offset the slight improvement that we have seen in our transmission offering.

Okay, that's very helpful. Thank you.

Okay, Ben.

Next question from Mr. Andreas Willi, JPMorgan. Please go ahead, sir.

Good afternoon, gentlemen. My questions are the following. On China, where you have the pressure in some areas in terms of Medium Voltage, rail, construction linked businesses, what have you seen in pricing in these markets, given, I assume, many of your competitors have a similar situation of having built up capacity over the last few years that's now materially underutilized. Have prices remained stable, or are you seeing price pressure in some of these products in China?

And the second question, on your comment about, kind of flattish early-cycle but still kind of better mid-, later-cycle business, would you normally expect the mid-, later-cycle business to show weakness six months after, as some of the effects we're seeing now on the earlier-cyclical businesses kind of when they spread further out in the economy, or do you think the -- kind of the mid-, late-cycle business can pull through this bit we are seeing currently that's coming from the weaker economy? Thank you.

Andreas, on the China pricing, what I would say is, you know, we haven't seen material pricing differences in the upper end markets that we participate, like with the breaker side of LP. It's just, you've seen a collapse in the construction marketplace, and it's been primarily a slowdown in demand.

That hasn't, from what we've seen so far, created a frenzy as far as pricing around those areas. I think we probably will see a little more pressure in that area, but that's fundamentally not the issue. The fundamental issue right now is just, when does that construction market come back, and at what level will it come back?

On the Medium Voltage switchgear piece that Michel talked about with transportation, I'd say in that specific segment, it's not about competition. It's about change in specifications. The lower the speed of the trains moves it from gas insulated switchgear to air insulated switchgear. When you go to air insulated switchgear, there's a lot more competition in that realm.

And so -- but look, essentially, the rail market in China has been shut down for almost a year. We see it in traction transformers, we see it in Medium Voltage switchgear and those areas. And that's going to have to be revived in China as part of the [clinical] process, and we'll see where it goes. In the meantime, we just -- so I wouldn't say that that market has materially changed in the sense of the competition piece, but certainly, we've seen some specification changes, and there's a very weak demand pattern out of China rail.

The rest of the market in China, I'll tell you, there's no material difference in what we've seen before, around (inaudible) power transformers, Process Automation, Discrete Automation and Motion is actually pretty strong (inaudible).

So maybe to follow up, the robotics business is still doing well in China?

Business still doing well, yes.

Very well in China.

Yes. Yes, and that's going to --

Thank you.

That's a little bit to your second question, about early-cycle, later-cycle. I mean, for sure, for the moment, we see our mid- to late-cycle still getting quite robust, and even Power Products, from a top line perspective, there's now a few quarters of improving orders all the time. We see it even in transmission. Very soon, revenues in transmission will even turn positive as we look at the backlog.

The Process Automation business, you know, in segments like oil and gas, minerals, marine, is really still enjoying very good demand. And in fact, Discrete Automation, which is not that further away on the cycle than the Low Voltage Products, is really showing a lot of robustness, including robotics and not only in China. The business is really doing very well, very strong demand in motors and generators too.

So for the moment, it really looks like it is focused until very short-cycle, and is very segmentation of construction, transport, and a couple of others like nuclear.

So, our feeling is, that it's not going to pull down the rest of the cycle. We may rather be a bit more optimistic and think sooner or later, the short cycle will correct the excesses that we have seen in the last two quarters.

And Andreas, if you took -- I'd say the same thing, Michel, and you took a market look, and I'd give you a geographic look and come up with the same answer. You'd say, what's going on in China, as the Chinese had attacked the construction segment, obviously adjusting inflation piece.

But our industrial markets there are very strong, and so that longer-cycle piece that's associated with industrial hangs in there.

Move to the United States, we haven't seen an aberration in the sense of the growth of that marketplace, and so, short-cycle and long-cycle blend in the way you do in a normal economic curve.

I think in southern Europe, we can say, yes, we're worried about how that short-cycle thing will work, and also, how the mid-month cycle comes in behind that. In northern Europe, it's stalled the cycle pretty much.

So, you look at it geographically or by market, you can kind of pick this thing apart and see where the pressure is.

Thank you very much.

Next question from Mr. Frederic Stahl from UBS. Please go ahead, sir.

Yes, good afternoon, gentlemen. It's Frederic here, at UBS. I had a question on Discrete Automation and Motion. I noticed that your European business is doing very well in the quarter, and double digit order growth, and I was wondering if you could provide some more color there, if you had any unusual order wins in the quarter, if we should expect good momentum in the coming quarters as well. That's the first question.

The second question would be the tax rate. Should we expect it to creep up over the coming quarters, as North America, which is a higher tax market, grows faster, and you add Thomas & Betts as well to your business?

Okay, on the first question, on the DM, so in fact, the northern part of Europe has been an excellent market for DM, and especially strong in terms of drives, motors and generations. The southern market was not as bad as it was in Low Voltage Products. So overall, we have really seen a very good development of orders, from that perspective.

In terms of the tax rate, 29.5% is a bit high, but if you look in the past, in fact, the first quarter has always been a little bit higher. We're still guiding at this stage for a tax rate of 27%. I think with the -- even with Baldor, we believe that we can go there with good tax planning initiatives. We still have to reassess the situation once Thomas & Betts is on board. We'll guide you more later on. But let's say, in the current state of affairs, with the current portfolio, we stick to our guidance of 27%.

Thank you very much.

Next question from Mr. Mark Troman, Bank of America Merrill Lynch. Please go ahead, sir.

Yes, thank you. Hi, Joe. Hi, Michel. It's Mark from Merrill's.

Hey, Mark.

Just a quick one on pricing. I guess we've talked a little bit about Medium Voltage, Low Voltage. Just on the Power Transformer side, you talked briefly about the -- I guess the anti-price dumping situation in the US and the Koreans. Can you just provide a bit of color in the major hotspots, what's going on with power transformer pricing -- Europe, the Middle East, China. You know, where is it getting worse, getting better, changing? It's the dynamics around that, please.

And secondly, just so I understand this, in the bridge that you put on the presentation, how do you differ between price and mix? Is mix between products and services, or is it the reported divisions? You know, so if Medium Voltage is weaker, does that go into the price number, or does it go into the mix? Thanks very much.

(inaudible), you want to hit the bridge, Michel, and I'll hit the power transformers?

You hit the power transformers?

Yes. (laughter)

Okay. (laughter) Now, listen, the bridge, indeed, if it is the same product that is sold cheaper, then it is a pricing impact. If, for instance, you have where -- what we are now in China, where so (inaudible) the market for Medium Voltage parts has kind of come down, and so we have to replace it by more basic switchgears. That is really a mix difference.

If you look at Low Voltage, for instance, where most of our product sales are done, that our revenues from Low Voltage system is up 46%, that is also a mix impact. This is not a pricing impact. So it's basically a shift of revenues coming from the different nature of offering.

Okay. Thank you.

Okay?

On power transformers, Mark, I just go like this. United States, North America, better. Northern Europe, same. Middle East, pretty much the same. China, no material difference.

Okay, brilliant. Thank you very much.

Next question from Mr. Martin Prozesky, Bernstein. Please go ahead, sir.

Good afternoon, everyone. It's Martin from Bernstein. Just, I wanted to dig a bit into the Low Voltage Products unit. You've given us your good explanation on the decline in China and Italy. Can you just give an example of what solutions in this business look like, and --

On what?

-- and, you know, where the market -- what solutions look like in Low Voltage Products. Is it a lot of subcontracting margin in there that dilutes the margin? Just, why is the mix effect so large?

And then the Services, you pointed out, grew quite nicely. What exactly is Services in Low Voltage Products? Can you just give us a bit more color there, please?

Okay --

All right, on the Low Voltage, we call them, not solutions, we call it systems, and I think it's a better way to kind of characterize (multiple speakers) --

(multiple speakers) Schneider.

Yes. And I think, yes, Schneider has a different kind of fix. Think about, almost like panel building. You know, Martin, in a sense, you bring together breakers and switches and din rail connectors and those kind of things, and you actually use manual labor to put those things together into an overall system. These systems are often sometimes geared for like a data center marketplace, they could be geared toward oil and gas, they can go into minerals and mining. All those have different specifications. ANSI is different than NEMA, is different than IEC, and so we're set up to do that.

Now, on different parts of the world, systems become more important. Like when you're in southeast Asia, a lot of our business for Low Voltage has been in systems for years, because we've had different distribution channels, and you needed to go to OEM. So OEMs don't necessarily buy parts, they buy total systems, in that sense, and we put those systems together.

We like this business, because it gives us access to markets and customers that we hadn't had before, we wouldn't have without that business. It pulls through a lot of high margin product, like breakers and din rails and and controls. But the labor component to it and the time component associated with it, by nature, makes it a lower margin product than what the product themselves would be.

I would say that -- you know, Martin, this is old information. This would be 2010 and 2011 information. But the top of my head, I think the largest OEM segment for Low Voltage systems is oil and gas, when you go around the world.

(inaudible), yes.

Does that help, Martin?

Thanks. And then on -- yes, it does. And on Thomas & Betts, is that more of a product business as a whole? So, it should help the margin --

Yes.

-- going forward? So it's primarily a products business?

Yes, it's a [plain] products and distribution business, yes.

Thank you.

Next question, Mr. Martin Wilkie, Deutsche Bank. Please go ahead, sir.

Hi, good afternoon. It's Martin at Deutsche Bank. A couple of questions. Firstly, on Power Systems, and you mentioned that the margin was hit by slightly because of, and the execution of lower margins in the backlog. But I think you also said that you're confident that's going to rise as the year progresses. But I think the -- given the numbers, and what's happening at one of your big competitors in that business, and their numbers today, I think there is still a general question out there about how much risk contracted are we asked to be taking on to build some of these large power contracts? I was wondering if you could just generally comment about the environment for orders. Are you being asked to take on more risk? And in the medium term, is that something that you're worried about, or you think that it's something that is under control?

And then the second question was -- just going back to Low Voltage, and the Italian number, which I think you say is down 24%. If you could just talk a little bit about your exposure in Italy, that primarily, the buildings and construction market, or primarily industrial. Thank you.

Okay. So on the Power System, I want to be very clear on this, too, because the margin is a bit disappointing this quarter in Power System, but it has nothing to see with these large projects. Actually, just to make sure it's clear to everyone, we have taken on this project this quarter, charge of $20 million, so we see it's not very relevant or material for the whole Group.

I think there is, obviously -- it is always a risky project, as I would think the risk profile will improve as we keep learning, you know. We started first with this offshore wind connections. We lost quite a lot on the first projects last year. We are getting only much better at this one, and I think that each time we and our competitor really understand the risk involved, I believe we will also finally come with a proposal and a price that reflects the risk that we are taking.

So in a way, I would say the risk profile is a bit better margin it was before. I'm not saying there is not risk -- no risk left, now. There is still a very high risk into that, and so, we will never tell you nothing will ever happen. But I think we are getting a better grip at it, and that we should see -- it's a huge market out there for the future, too, so we need to get better at it as well.

And also, just to finish on that, so the major deterioration of PS this quarter is really more operational, it is more the backlog in substations and from the R&D. From what we see in the backlog, we expect an improvement next quarter.

Martin, on Italy, look, I don't know the specific numbers, and yes, our team can kind of dig down for you, but I would -- I think a lot of this has to do with industrial, more than building. And a lot of OEMs that we service there that have been exporting machinery, and those kind of things that the products go through.

That is so.

Okay, thank you.

Next question from Mr. William Mackie, Berenberg Bank. Please go ahead, sir.

Hi, good afternoon, guys, it's Will Mackie.

Hi, Will.

A couple of quick -- just staying with Power Systems, can you maybe run through what measures or contingencies you may have taken in the risk committees, when you assess the prospects on your two offshore contracts with Tennet? Or in the German region. Because you've mentioned, I think today, that there is a prospect of charges, so really, what sort of contingencies or risks you see, given the evolving situation?

And also, within Power Systems, I see that the order back -- intake in Europe dropped somewhat. How do you feel about the tender outlook, or the tender backlog within Europe? I notice you've been quite promotional in the press in Germany to accelerate, perhaps, an order intake in that segment.

And then just sticking with Italy again, actually, you've talked about 26% down in Italy and 24% in Low Voltage. What's it like with regard to the Power businesses in Italy, in terms of the decline in order intake in Q1? Thank you.

You want to do the contingency piece, Michel?

Yes. Well, I don't think that we have indicated that we would -- considering to take any additional charge, or to say, you know, we -- that was a certain risky business. From time to time, you have to adjust your margin expectation. But we're not making any specific charge, other than the $20 million that I just mentioned, which is a slippage that can happen because of some technical difficulties.

So, at this stage, as I say, we are just learning our lessons, adjusting our risk profile, making partnerships with experts -- for instance, to build these gigantic platforms in the middle of the North Sea. You know, we have now found better partners to ally ourselves to, that can really help out. We have reduced the risk with the ship also, taking -- making a chartering agreement with the cabling ships, or you try to a little bit vertically integrate the true partnership, to try to reduce the execution risk.

But it's not about just asking more the guarantees from the customer that we know it's a tough game, but it's also not the end customer. So we just have to understand the risk profile and price accordingly.

And Will, too, on that piece, too, we have learned a lot over the years in the sense of how to bid these jobs. We've made mistakes in the past, and as we quote those jobs, we make sure that the cable laying issue that I mentioned before, that we are not held liable for those things, and the terms and conditions reflect what we're responsible, and what the end user would be responsible for then, too.

So it's not just how we book this thing. It's also the terms and conditions are extremely important on these jobs for us.

And to your second question, the Power businesses in Italy were down double digit as well.

Great. Can I just follow up with a couple of quick ones? The minorities were down 34%. How much of that was structural, or -- and how much related to the performance of the JVs in China and other emerging markets?

I would say a big part is the performance in China, obviously. As we mentioned, you know, the segments in which we got hit were also the ones where we have really pretty good margins in some of these projects, so the profits out of China, they were much lower this quarter. So I think it accounted for a good part of this change.

Will, you also asked about that PS order intake in Europe. It dropped. I -- we actually -- I don't think there's anything meaningful going on there in northern Europe. But when you said we were in the press, and were trying to accelerate things, I don't know what you're reading, but it could be the Hannover Fair. I mean, this whole grid system that has to take place in Germany because of the shutting of the nukes and trying to get this power from the North Sea down to the southern part of Germany.

What we've been basically positioning ourselves is to have the High Voltage DC technology, the total system, not just point to point, the actual DC grid. And that's what we're promoting right now, just to make sure that it's -- that whole grid system is planned, that HVDC in that kind of arrangement is not seen as a stumbling block by the authorities there, and we can actually facilitate that transition.

Super. Thank you.

Okay.

Next question from Mr. James Moore, Redburn Partners. Please go ahead, sir.

James, we were worried about you, because we hadn't heard anything. Okay?

I'm all right. (laughter) Hi, everyone. Just a couple of questions. I think my core questions have been mostly asked. But let me actually get back to pricing on orders. I wonder if you could give us some numbers on how that looked for some of the key pieces in Power Products, and maybe some of the other divisions.

And secondly, I've seen your outlook. You kind of leave it a bit open on the mix effects, going forward. You obviously signaled the last set of results that this quarter would be a tough quarter for mix, and you talked about, it depends on China and southern Europe and how that plays out.

As it currently looks, are you able to help us a bit on what the margin looks like next quarter in the way that you did last quarter?

(laughter) Good try, James. We did that in the first quarter, as I said, because we knew that we had some specific output from our backlog that we thought was better to warn you on, but I also said that we are not going to get into a quarterly guidance exercise. So, no, we're not going to do this, and especially the period, the biggest question mark is China. And as I said, your crystal ball is as good as ours, here. So we have to just see how long it will take to turn around. So we really don't want to get into a quarterly guidance exercise, from that perspective.

As to your first question, a bit the same answer, I'm afraid. You know, we -- in terms of pricing on orders, we have only then done that for PP, and there, I can tell you, it's the same in last quarter, not really a change from that perspective. We're reaching 5% to 6%. We have really not done that for the other divisions, and we won't do that here too, because it changes too much from one quarter to another, depending which kind of segment there, I think.

So, sorry, it's not maybe a detailed answer, but --

Margin on orders, Michel, overall? Go ahead, James.

So maybe I could follow up with another question. I think there's a lot of confusion about what the medium to longer term outlook is for margins in the T&D industry, and clearly, you don't have a crystal ball there. But the divergence in profitability between you and your principal competitor is at a record level, and the industry is historic. You made high single digit margins, and you're well above that in Power Products.

Do you think that you have more visibility on that issue now than you did, and are you more concerned that you're overearning, and Siemens is pointing in the right direction, or are they underearning and you're pointing in the right direction?

Wow, that's great. That's a good question, James. (laughter) I would say it's the latter. They're underearning. And remember, the Siemens reports there the total transmission and distribution (inaudible) Power Products division, so we don't get a clear look, in a sense, how PP and how T&D is doing, in that sense, so --

But first -- and then the one-offs makes it also a bit difficult to --

Yes. When you write off $500,000, EUR500,000, it's a tough comparison. But I think if you go back even before the big write-off -- I'm just trying to help you as much as I can. I think Siemens was very critical of their T&D margins and where they had gone. We worry about ours also, and we've been fighting that with the cost-out and all the other things that we've done. But I think Siemens is very local in this sense -- very vocal in the sense of, they're disappointed with those margin pieces.

So my expectation was that they would, obviously, from a market standpoint, move to correct that.

Yes, and at the end, our guidance is what we have given in the capital markets. The EBITDA ranges that we give there, we don't see any reason at this stage to change anything to that, and we'll still manage to keep within these ranges.

Thanks for the confidence. All right, thank you.

Thank you.

Next question from Mr. Olivier Esnou, Exane BNP Paribas. Please go ahead, sir.

Yes, hello, good afternoon.

Olivier, bonjour.

So, the questions I have are the following. On the bridge, the piece which is sales and R&D investment, I had written down somewhere that the plan was for $300 million to $400 million this year. So, if that was correct, you seem to be quite ahead of that. So I was wondering if you could update us on --

Yes, it is because last year, in the bridge, we recorded acquisitions separately. Now we have integrated everything. So in fact, if you -- out of this $144 million of increase in sales and R&D, I would say that about $40 million of that is inorganic. So the same store kind of increase is really about $100 million, a bit more than $100 million, which then matches into the $400 million that you had taken note for.

Okay, so we --

You know, which is still 1%, 1.2% of sales, 1.2% of margin that we sacrifice for growth investments.

Okay. So we have the top end of that. Do you have a lot of room to maneuver? I mean, if things don't come back the way you want, how quickly can you adjust that level of reinvestment?

Yes, I would say we can, because obviously, it's not a straight line, you know. You put this effort -- let's say, you talk of salespeople, for instance, you hire a certain number of salespeople, then you take a break, you see when it starts generating some additional revenue, then you go for the next wave. So you can also just delay or stop the next wave if you think it may be too dangerous because the economy changed. It's a little the case in Low Voltage, for instance, where we have delayed some hiring freezes to just get a little bit more of a flavor for what's going on in the market.

And you're generally happy with the return you get? Because right now, we see margins coming down, and this reinvestment, so difficult to assess if, you know --

But I would say that return on a salesman, it takes a while before he is trained, before he is really introduced to the customers. But he might take, for instance, in the Service segment, where we have invested a lot in sales, I think that there, we start seeing now that Service is really taking off, you know, orders up 9%, revenues 12%. And effectively, we dig down and some of the countries where we really invested in salespeople, we have solid double digit growth. So I really think we see the returns, yes.

I think what -- unfortunately, what you can't see, and what we don't do is, we don't break this thing out by division for you, and (inaudible) in how we do it. And so if you look at what the big investments we've made in Discrete Automation and Motion, and we've seen massive payments on those. Like Michel said, in Low Voltage, we've actually cut back on that, as we've seen the market tighten on that --

And PP.

PP is actually flat year to year, or down in those areas. And so, we really manage these things by BU and by component, depending on what we're seeing in the cycle.

Okay, just a follow-on. On the commodity piece in the bridge, which is also new to me, I've long waited to see some commodity impact in your bridge, and does not happen, then we know that commodity price had recovered very strongly over the last 18 months. So are we now just at the beginning of you having an impact on your bridge every quarter, or how is that going to work?

Well, again, that's another crystal ball I don't have. But as you know that we are constantly hedging all our commodities, so what we are doing with that is smoothing out the impact that it had on the specific quarter, because the hedges kind of equalize a little bit the changes.

Now, what we said here, out of this $144 million, the major component is ForEx. Commodities, I would say, probably between $20 million and $30 million, which again, (inaudible) in the right quarter is not hugely material, but you know, it can happen sometimes that you get this kind of deviation. We had that one time last quarter, too. But that still explained that overall the hedging policy helps to smooth the impact, and that it's not extremely important.

Okay. Thank you very much.

You're welcome.

Next question from Mr. Alfred Glaser from Cheuvreux. Please go ahead, sir.

Yes, hi. Good afternoon.

Hello, Alfred.

I just wondered on -- coming back on prices again, you mentioned before that the price pressure in the new order intake remained very much what it was in Q4. Could you give us some idea on how this could develop into sales and EBIT bridges going forward into the next few quarters? Should we expect kind of a run rate of [$260 million] price pressure for the quarter going forward, or is this too much, or is this kind of [like] quarter for Q1?

No. We have guided in the beginning of the year that we were looking at generating $1 billion of savings, because we felt that the pricing pressure would be around $1 billion. I think after this first quarter, it appears like it's still in the same zone, so at this stage, we kind of consider that as the run rate, and run the Company accordingly.

Okay. All right, so kind of permanent situation going forward, yes?

Yes.

All right. And second question, on free cash flow, please. Could you give us some indications on what's your current outlook on the full year free cash flow, either in absolute terms, or compared to last year's performance?

Yes, let me maybe answer that one a little bit in details, because I think it's important that we understand a bit what's going on with the cash flow here. I'm the first to admit that this is not a great cash flow, but I also think that it's not as bad as it may read, because there has been a big component here, a big variation in corporate cash flow.

If you look in terms of operating cash flow, you saw that in fact, the divisions' operating cash flow are only down $30 million, compared to last year, but we have [built out] almost $200 million in corporate. Last year, corporate cash flow was $6 million positive. This time, it's $187 million negative.

I would say a normalized corporate cash flow, you know, which takes care of all the headquarters costs, the central research, real estate, and all that kind of thing, should always be in between negative [$130 million, $140 million].

So you see what happened is that last year, we had a pretty large one-off gain from a hedging contract that gave a kind of artificial positive corporate cash flow. This time, it was a small outflow instead of being this large inflow. And we had, as well, some contributions to the pension funds in the US and in Sweden, it was about $40 million. So there is a big delta there that explains a little bit the difference in cash flow, again, from the pure division cash flow, operating cash flow was down $30 million, and cash flow from operation, which includes interest and taxes, was at division level, down $100 million.

So now, we start the year, the first quarter, with a free cash flow which is negative $250 million. We are still investing quite a lot in CapEx, you know, with some pretty big projects like the cable factory in Sweden, and in the US. Also, you know, some of this CapEx and redesign of some factories, too, it's quite important.

So again, over five years, we would say we will try to reach this average 90% net income to free cash flow conversion, as in it's still a year here where we might short a little bit below that, maybe 80% to 90%. But I'm still confident that over the five years, we can get there, because we will not continue having every year's projects of $300 million, $400 million.

That's right.

All right. Thanks. That makes it clear.

That was the last question for today.

Okay, thanks -- thanks for joining the call, and thanks for your interest. We'll report back to you on the progress of the Company in the second quarter. Thanks again.

Thank you. Bye bye.

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