Landis+Gyr Group AG (LAND) Earnings Call Transcript & Summary

Ladies and gentlemen, welcome to the Landis+Gyr Half Year Results 2021 Conference Call and Live Webcast. I am Sandra, the Chorus Call operator. [Operator Instructions] and the conference is being recorded. [Operator Instructions] At this time, it's my pleasure to hand over to Eva Borowski, SVP, IR and Corporate Communications. Please go ahead, madam.

Thank you, Sandra, and good morning, everyone. As you know, earlier today, Landis+Gyr issued a half year financial year '21 results, ad hoc release and the company presentation. You can find these documents on our website. Before we get started, we want to emphasize that some of the information discussed today contains forward-looking statements, and we want to explicitly emphasize that there are numerous risks, uncertainties and other factors, many of which are beyond Landis+Gyr's control that could cause Landis+Gyr's actual actions and performance to differ materially from the forward-looking information and statements made on this conference call or in this presentation. Consequently, Landis+Gyr can give no assurance that those expectations will be achieved. For more information, please see Page 2 of the presentation and our press release issued today. This conference call will follow the presentation, so we suggest that you have it on your screen or otherwise available to follow along with our comments during the first part of this call. Afterwards, you will have the opportunity to ask questions, and Sandra will provide further instructions as we start the Q&A portion. With that short introduction, I'd like to turn over the call to our Chief Executive Officer, Werner Lieberherr.

Thank you, Eva. Good morning, everyone, and welcome to our half year fiscal year '21 results. I'm here with Elodie Cingari, our CFO, and we are very pleased you have all been able to join us this morning. Look, before we start with the presentation, I would like to give you a brief overview of the key messages of today's call. First, we are pleased to announce an order intake of almost $1.8 billion resulting in a record backlog of over $3.2 billion. Second, we were able to achieve a 10.1% adjusted EBITDA margin and produced a solid free cash flow, excluding M&A, of $41.6 million despite the global and cross industry supply chain challenges. Third, we are confirming our guidance for FY '21 but expect to come in at the lower end, and I'm convinced that we have the right strategic focus to drive leading-edge technology and transform the business. So let's talk about what's been happening over the last 6 months and move on to Slide 3. In late '20, our customers received long-awaited regulatory approvals, and as a result, we were able to win major contracts over the last few months. As the global supply chain situation continues to pose challenges, we were able to deliver a solid first half of the current financial year. Let's have a look at some of our key metrics. Our book-to-bill ratio was 2.55, which is an improvement from 0.73 in H1 of FY '20. Improving this ratio was one of my top priorities and I'm excited to say that we have delivered on that. Our committed backlog is up 55.5% year-over-year, a record $3.2 billion, mainly driven by the major contract wins in the Americas and EMEA. Net revenue came in at $700.9 million, an increase of 9.1% in constant currency. Our EMEA region was up 31.4%, Americas slightly down by 2.4%, and our business in Asia Pacific was down by 6.7% in constant currency. Adjusted EBITDA came in at $70.8 million with an EBITDA margin of 10.1%, an increase of 210 basis points driven by operating leverage and favorable mix. Free cash flow, excluding M&A, remained positive with $41.6 million, down 8.2% year-over-year, yet demonstrating again the cash-generating power of our business. One of our great strengths has always been our balance sheet. This remains very solid, with a net debt to adjusted EBITDA of 0.5x. In regard to global supply chain challenges, we expect the impact to be elevated in H2 compared to H1, but work diligently to manage the risks. Talking about M&A, we have acquired Etrel and True Energy in the EV infrastructure technology market and have agreed to a strategic investment in Charge Point Operator, Allego to solidify our position further. The acquisition of Telia further expands our managed services business in EMEA. And in addition, we have signed a binding agreement to acquire Luna in Turkey, offering cost-competitive solutions in smart metering. Let's talk about what we have achieved when it comes to sustainable impact on Slide 4. Looking at the page, we are proud that our reference are being recognized with awards and continued high ESG ratings. In addition, our portfolio of products and services enables us in a unique way to have a direct sustainable impact. For example, we were able to avoid 8.5 million tons in CO2 emissions through our installed Smart Metering base. In addition, for this year, we have raised the sustainability component in our short-term incentive for all eligible employees from 10% in '20 to 20% this year. Working actively towards the greener future, sustainable impact is one of our shared values as we continue to manage energy better and support global efforts to decarbonize the [ grid ]. Today, we have also published our sustainability report and invite you to take a look on our website. Now let's move on to Slide 5 and take a look at our activities over the last 6 months. When I look at this timeline, I'm proud that we continue to keep things moving and drive positive business development with important wins and strategic acquisitions. Since the list is quite comprehensive, and we will talk about some of the larger wins later in more detail, let me pick a few highlights. Winning contracts with Enedis in France and Horizon in the U.K. shows our continued leading position in these markets. In Australia, we are proud of a win with South East Water just recently. And on the acquisition front, we have made good progress, more about it later. But let me say that we continue to invest heavily in new technologies, M&A and partnerships to strengthen our core of smart metering and expand our reach integrated intelligence and smart infrastructure. Let's move on to Slide 6 and take a look at the recent awards we have won. We are proud of the strong partnerships we have with our customers around the globe. To name just a few, in Japan, we have won a contract that will allow us to continue to provide our Command Center head-end system for the upcoming replacement cycle. In the U.S., and we have all waited for the regulatory approvals a long time here, we have been involved with contracts for National Grid, PSE&G and LG&E. And in EMEA, we were able to win a large contract with Fluvius in Belgium. We are very excited about these projects and others, of course, and continue to be committed to delivering leading-edge technology to our customers and value to our shareholders. Let's turn to Slide 7 and review the progress of our strategic transformation briefly. Our commitment is to remain a leading provider of resource management solutions, and so we are temporarily investing an additional 2% of revenue to drive our strategic transformation and future growth forward, bringing our adjusted R&D expense in H1 to 11.1%. As you can see on the left, smart ultrasonic water and gas technology development propels our organic growth in Smart Metering. And the acquisition of Luna, once closed, and Telia's metering reading business expand our region's Smart Metering and Grid Edge Intelligence. In addition, we are proud to have strong partnerships. Vodafone is enabling meter and sensor communications through cellular technology, and the 7 years strategic partnership with Google is a big part of our transformational journey as it allows us to co-innovate new offerings in smart infrastructure. Let me dive a little deeper into our newest additions and technology developments on the next slide. Turkey-based Luna offers a cost-competitive metering platform with well-established production facilities in Izmir, Turkey, and opens new markets for us. The acquisition is expected to close towards the end of the current calendar year. Telia's metering reading business, which you can see on the right, expands our managed services position in EMEA significantly and build out our position for the second wave of smart meter rollouts. And after the acquisitions of Etrel and True Energy earlier this year, the agreement to strategic investment in Charge Point Operator, Allego allows us to further strengthening our position in the EV market. Let's take a look at the progress of some of our strategic initiatives. The Digital Transformation Partnership with Google allows us to develop future proof solutions, transforming our business towards a more software and services-driven company. Our head-end system organization is well underway as we prepare for North American and APAC delivery and sales [ centers ] in Q1 of FY '22. The partnership enables us to offer our customers more insight into the vast amounts of data our smart meters and grid edge intelligence sensors collect on their behalf. As part of that, we will offer applications like power quality and pattern detection to empower our customers to manage energy better. In summary, our partnership with Google drives customer benefits, additional revenue opportunities, cost optimization and efficiencies, and we expect benefits realization to start this fiscal year through FY '23 and beyond. Moving on to the right. Rhebo is perfectly positioned to cater to the increasing demand for cybersecurity at the grid edge. We expect around $9 million in revenues by '23 with an offering of integrated OT and AMI security. Also, interest continues to grow in smart water metering solutions as the market is switching to smart ultrasonic technology that will replace the current mechanical devices. That said, we expect around 1% of revenue to come from ultrasonic smart water technology by '23. Good development also for our Ultrasonic global smart gas meter. We see increasing interest in the North American market with strong customer engagement on product requirements and anticipate full market introduction in '23, with volume ramping up swiftly afterwards. The result, we expect [ 2% ] of revenue to come from Ultrasonic smart gas technology by '23. These targeted investments in new products and services drive future growth, and we are on the right path to drive these initiatives forward. Let's turn to Slide 10, take a more in-depth look at the current supply chain situation. Over the last few months, we have seen an impact on our supply chain as have many businesses around the world amidst this global crisis. Around $40 million in topline was deferred due to the current supply chain constraints and EBITDA results included incremental $10.5 million in supply chain costs. We have mitigation actions in place and work closely with our customers and suppliers, but we expect the situation to become increasingly challenging in H2. The impact we see is mainly related to 3 topics: material nonavailability, material price increases and heightened freight costs. That said, we are confident that we will be able to stay within our guidance ranges for FY '21, also we expect to come in at the lower end of the guidance. Let's turn to Slide 11 and have a look at the developments in each region. I'll start with the Americas, led by PV. Our Americas region has delivered good news on a monthly basis in the past half year, and we are very excited about some major wins in the region. We were able to book a record order intake of $1.2 billion resulting in a $2.3 billion backlog, which brings us to a record 3.7x book-to-bill ratio for the first half of the financial year. We have already talked about the major wins, so let me add that here that we are also continuing to expand our distribution business with cooperative and municipal utilities including strong portfolio in distributed energy management, advanced grid analytics, demand response and smart city IoT. On the technology side, we continue to focus on market-leading devices, grid edge platforms, smart infrastructure sensors and software solutions. In summary, we are proud to be a provider of critical infrastructure, supporting resiliency and modernization of the grid infrastructure, cybersecurity efforts and initiatives to decarbonize the grid. Let's move to Slide 12 and take a closer look at EMEA led by Bodo. In September, Bodo took over the EMEA segment, and we are excited that he will lead our EMEA region into a successful future. Over the last few months, we have seen some fantastic wins in the region. Next to the Fluvius contract in Belgium, we have won a key contract with Enedis in France and remain one of the 3 suppliers for the Enedis rollout. We are also proud of the contract extension, new wins with Horizon Energy Infrastructure in the U.K. and significant wins in Switzerland. Last but not least, we are excited about the Eskom tender win in South Africa. On the acquisition front, we were also able to announce some exciting news, and we have talked about this at length during the call already. So let me just mention here that the integration of Etrel and True Energy is well underway, and we are excited to be an active part of the booming EV infrastructure technology market. Let's take a look at APAC led by Steve on Slide 13. In Australia and New Zealand, we continue to see good momentum for smart electricity meter rollouts and also a growing interest in smart water metering technology to combat distribution losses. In Hong Kong and Malaysia, deployment for AMI projects continue even though the pandemic has delayed a number of project schedules across Southeast Asia. In China, we saw sales improve year-over-year, and in India, the countrywide lockdown in Q1 resulted in contraction of sales by 6.7%, but we were able to commence first deliveries for 2 new AMI projects. Overall, we saw increased order intake year-over-year by $22 million, with a significant portion of smart water reflected in the end. Now let's turn to Slide 14 and take a look at our consolidated results. Order intake was almost $1.8 billion, up 277.4% in constant currency, driven by major wins in the U.S. and EMEA. Revenue recovery was driven by easing installation rollout restrictions in EMEA while supply chain constraints impacted revenue growth. Further, we saw strong adjusted EBITDA margin expansion due to product mix and operating leverage, partially offset by transformation, one-off COVID-19 reversals and supply chain costs. Overall, despite the current challenges, we were able to deliver a solid free cash flow generation, resilient margins and solid balance sheet. Let me now hand over the call to Elodie to give you a more detailed review of the financials. Afterwards, I will come back to our guidance for FY '21 before we open up the call for questions. Elodie, please.

Thanks, Werner. Good morning, everyone. I'd like to walk you through the financial details of our first half '21. As mentioned by Werner, our order intake was at approximately $1.8 billion, driven by major contract wins in Americas and in EMEA. This is a very positive development that was dependent in part on regulatory approvals and easing COVID-19 restrictions. Based on our H1 '21 revenue, book-to-bill ratio for the company was at 2.55x, driven by Americas with 3.7x. We expect this ratio to come down in the second half of this year. At the end of H1 '21, we had a record backlog of $3.2 billion, which represents an increase of approximately $1.2 billion or 56% versus H1 in prior year and 49% versus FY '20 year-end. We expect a significant backlog growth from these orders for the full year '21. The recent orders are planned to convert into revenue starting in 2023, while we will have [ upfront ] costs related to R&D and operations ramp-up starting in the second half of this year. Now if we move on to Page 16 and look at our net revenue, our net revenue results for H1 '21 was at $700.9 million. This represents a 9.1% growth in constant currency versus half year prior year. Key driver for this revenue increase was the volume carryover from EMEA deployments, in particular in the U.K., and rollout in Sweden and then Austria, and a strong overall contribution from software and services. In Americas, we are experiencing higher demand than our ability to [ serve ]. On one side, this underlines the demand for our technology and product offering. On the other side, the global component shortages puts pressure on the delivery plan for the financial year. In H1 '21, we were able to offset this partially to a higher volume in Brazil and Japan and overall software and services. The APAC region remains resilient. Strong growth in China and Singapore, but overall impacted by the India lockdown in Q1. The overall impact on revenue from the acquisition of Etrel and True Energy with [indiscernible] due to the recent timing. If we now look at EBITDA on Page 17, our adjusted EBITDA for H1 '21 increased from $50.1 million last year to $70.8 million year-over-year. This translated into an adjusted EBITDA margin expansion by 210 basis points from 8% to 10.1% in H1 '21. In particular, our gross profit increased for 2 reasons. Gross profit volume benefit was $18 million, driven by higher revenue in EMEA, and gross CapEx margin benefit was overall $25 million. The 3 underlying drive-outs were favorable product mix in Americas and EMEA, benefits from structural changes implemented last year that were partially offset by higher supply chain costs that impacted H1 '21 by $10.5 million. Our adjusted operating expenses increased by $23 million year-over-year at constant currency. As already highlighted during our FY '20 results, the onetime benefits related to [ core support key ] started to fade out in the later part of last year. Our OpEx came back to a more normalized level in H1 '21. In addition, we are investing significantly in our strategic initiatives including our recent acquisitions. If we now dive and look at the details of reported EBITDA to adjusted EBITDA on Page 18, there are 3 items as shown on the page. First, restructuring. In H1 '21, there were limited restructuring charges. This compares to prior year impacts that were mainly related to project permits, the global streamlining and rightsizing initiatives that has been completed by the end of last year. Second, warranty normalization adjustments, representing the 3-year average of actual warranty costs incurred in excess of the provision build for new cases in H1 '21. Thanks to lower warranty cases, the downward trend from prior year continues and the warranty provision for H1 is down $7.2 million compared to the 3-year average utilization. Third, timing differences on FX derivatives. Our biggest FX exposure is in the U.K., where we contract revenues in pounds and offer our supply chain cost largely in other currencies. The adjustment excludes unrealized gain or losses of $8.5 million related to mark to market differences on our FX hedges, whereas the hedge or underlying transaction has not occurred yet. Looking into our cash flow performance on Page 19. We can see that in H1 '21, we continued to generate strong free cash flows. Excluding M&A, our free cash flow was at $41.6 million. This continues to highlight the resiliency of our operating model. Working capital continued to be a net generator of cash despite higher volumes due to our strong collection efforts and tight cash management. Warranty and warranty settlement cash outs was $7.5 million, in line with prior year. Other cash flow represents changes in other assets and liabilities and had an impact of $30.6 million due to the unfavorability from derivative financial instruments used to hedge our current exposures and also timing of restructuring [ efforts ]. Tax payments were $12.5 million, higher than H1 last year due to higher profitability and expiration of government tax payment deferral schemes benefiting last year. Our capital expenditure remained low at $8.9 million, benefiting from our asset light model. Finally, we recorded cash out of $41.4 million, predominantly related to our acquisitions of Etrel and True Energy in the EV space. If I look at net debt on Page 20, as of 30th of September 2021, we had a net debt position of $79.3 million. In H1 '21, uses of cash were the dividend payments that were made in June of $65.9 million, the acquisition of True Energy in April and of Etrel in July. A significant part was financed to our strong cash flow generation from operations in the first half of $41.6 million. At the end of H1 '21, in addition to our solid cash position of $86 million, we have undrawn facilities of over $411 million available. All in all, we maintain a strong balance sheet with a net debt to adjusted EBITDA ratio of 0.5x. If I now dive into our regional performance, and starting with Americas on Page 21. In the Americas, order intake was approximately $1.2 billion, resulting in a record book-to-bill of 3.7x. Revenue fell by 2.4% in constant currency to $325 million impacted by the global component outages. We are monitoring the situation very closely and are in real-time communication with our suppliers. The North America volume shortfall was partially offset by Brazil and Japan, higher sales of meters, network equipment and software and services. Adjusted EBITDA margin expanded by 320 basis points to 15.4%. This was largely due to a favorable AMI residential and ICG product and customer mix, further supported by positive effects of the Hermes restructuring from last year. In part, these favorable effects were offset by increased supply chain costs and one-off COVID benefit reversal and strategic investments. Moving on to our EMEA region. In EMEA, we recorded also a strong book-to-bill ratio of 1.6x, driven by a significant increase in orders, in particular, from Fluvius in Belgium. Revenue increased by 31.4% in contrast currency to $300 million. This increase reflects the recovery of our U.K. business compared to prior year, as well as easing of installations in the rest of the region, and in particular, in the Nordics and in Austria. Adjusted EBITDA margin expanded by 640 basis points to 4.4%. This was largely driven by operating leverage and supported by positive effects from the Hermes restructuring. Like in the Americas region, the higher gross margin flow-through was in part offset by transformation costs, higher supply chain costs as well as expired deferral schemes. Note that inorganic P&L effects coming through the Etrel and True Energy acquisitions were relatively small in the first half of this year due to the timing of acquisition [ closures ]. Moving to our APAC region. In APAC, order intake increased year-over-year, resulting in a positive book-to-bill of 1.1x. Similar to last year, APAC revenue showed resiliency. Growth in China and Singapore was offset by the decline in India that experienced significant COVID-19 related lockdowns in the period as well as deployment timing in Hong Kong, which was anticipated last year. Adjusted EBITDA margin declined 4.4%. This was driven by expanding gross margin due to favorable product mix and cost-out initiatives that were in part offset by our higher R&D and transformation costs. With this, I will now hand back over to Werner to conclude on the guidance.

Thank you, Elodie, and turning to Slide 24. Let's talk about the guidance for our financial year '21. Despite the ongoing and increasing challenges of the global and cross industry supply chain situation, we are confirming our guidance for FY '21 that we communicated last May during our full year '20 results presentation. Let me add that we expect to come in at the lower end of the guided ranges since we still see some level of uncertainty. This is mainly driven by the global shortage of electronic components and plastic resins as well as increased freight rates that continue to pose challenges for cost and on-time delivery performance. That said, we're working closely with our customers and partners and mitigations actions are in place. Having said this, we will open up the call now for questions.

[Operator Instructions] The first question comes from Andreas Willi from JPMorgan.

Yes. Good morning, thanks for the time. I have 2 questions, please. The first one on the mechanics, how it works in terms of the pricing on larger contracts. So when you make the proposal, then you have customer discussions, you get preferred supplier status, regulatory approval and eventually a firm order. At what point in time do you fix the price, how much flexibility is there afterwards, if any, and how can you normally hedge this in terms of your input cost effects and so on? Do you get a better sense of, obviously, larger orders that have been signed recently and the embedded pricing relative to current component costs? And the second question, in terms of Europe. I assume the run rate has now pretty much normalized post-COVID. Maybe you could talk a bit about the U.K. and the French rollouts, [ bail ] be then now on these? And when would we start to see some moderation as these rollouts mature?

Very good day. Thank you, Andreas, for your questions. First one, large contracts. As you said, we actually put the bid together. And when we think about the U.K. in particular, then we had these regulatory approvals [ write back ]. It's really driven by this not only second, but third wave, so to speak, of new technology where the regulators obviously want to weigh in, which means, is it the right value proposition for the end consumer, but also for the utility. Prices, when we go in, there's a negotiation. And then, for example, in our case, we wait for regulatory approvals and firm market contracts. So the price negotiations really take place actually prior to the handing in the regulatory approvals, which is fine with us. If you think now what does it mean in this particular supply chain situation, as we said before, rollout starts in '23, delivery times actually from the supplier expanded significantly from 2, 3 months up to a year. So that means we really then, somewhere in '22, we need to lock that in. And maybe last point to you, Andreas. I would say, when I think about these contracts, margin-wise, they're pretty much in line with the historical margins we have seen on contracts in the U.S. Then the second point, in terms of EMEA. The way to think, U.K. is, for us, a very significant market around 40%, it remains about 40% plus/minus as I -- the way we look at it, with some of the supply chain challenges, it could be maybe the peak is moving a little bit into '23 or maybe stays at 22' we will see that, but that's how we think about it. And that's why it was so important to win this Fluvius contract because after '22, '23, revenues will come down in the U.K. France peaked in '20, it's coming down now, but still at a reasonable level, same with the Netherlands. We have in this -- in the Netherlands also, we have actually the market share around the same, it's about 4%, 5% now.

The next question comes from Patrick Laager from Credit Suisse.

Just 2 questions. Regarding Americas you mentioned the important tender wins across the U.S., such as National Grid, for example. Now going into H2 and, more important, beyond H2. Shall we expect additional wins here? This is my first question. Second question is coming back to EMEA. Here again, you mentioned some important tender wins across EMEA, but also South Africa, and you have provided some indications here regarding the U.K., the Netherlands and France. But can you provide more details around project deployment and what sales we should expect roughly? So Fluvius, Enedis, what's the other one, Horizon Energy? And also, by the way, the Swiss tender?

Yes. Thank you, Patrick. In the Americas, obviously, I mean, this was a landslide which we had, which we are super happy about it, this huge wins. I think that's obviously not -- will continue like that. It will come down to a more normalized level, but I think our job is to really make sure that we stay at the healthy book-to-bill. So we expect in H2, one or the other win. But definitely, the way we think about it from this 2.55% for the year, we come down probably to around 1.6%, something like this book-to-bill, which is still a very healthy rate. So in other words, we would like to see more wins to come, but not the same magnitude. In terms of EMEA, as you said, Patrick, I think we had good wins across the region and I think well positioned the countries you mentioned in terms of Belgium, South Africa, Switzerland and so on. But one thing I also like to say which excites me in particular is obviously also that with Luna, now we have a very cost competitive platform, which also should allow us to enter new markets. Not only home market in Turkey, but also where you have more basic mechanical metering like in Africa, like in some of the Eastern European countries, which really should help us. And then I would also say, Patrick, in terms of where is growth coming from? When you think about the organic growth, 1% in water and 2% in gas, that's is, from my perspective, good numbers, that's around $45 million. And then we have Luna, which is around $50-plus million. We have Etrel this year, around $17 million. So when you think about these numbers together, we already are [ raking ] here $100-plus million in '23, and I think that's critical for our company.

But okay, thank you very much, Werner. But no timeline you can provide for each -- I mean, probably you can provide for each contract here and also in terms of sales. Because this is, obviously, very difficult for us on the sales side to model it into our forecast, how things will develop for each project here. So no indication here?

Yes. No, sure. I would say, Patrick, the way we think is pretty much once we want a larger order, then it takes around 18 to 24 months before we actually are able to recognize revenue. That's driven by engineering, certification and so on. That's the way we think. If it's a repeat order, different or maybe one point [ out ], you can say lowest if it's it book and ship. That means we book something and ship it in the year, which is a good thing for us because it's short flow revenue, which is about 30% of our company's book and ship, where we also have much more, actually, leverage in terms of commanding pricing because, obviously, especially in this current time. These are then the short flow [indiscernible] in addition to that.

The next question comes from Lucie Carrier from Morgan Stanley.

I have a few of them, and I will go one at a time. The first one was a follow-up on Andreas' question on the backlog. I just wanted to confirm, Werner, when you were saying that the margin of the contract you have been awarded in the U.S. a couple of months ago, that this margin was in line with the U.S. historical margin. Is it considering current raw material prices and freight costs? Or is it considering the cost that you were seeing at the time of the bidding, please?

Yes. So Lucie, about these contracts, I mean the price -- the material costs obviously have been priced in when we bid it. However, we do have some index clauses, without going now into too much detail and confidentiality, but there is some index clauses in terms of which can be applied, but the pricing has been fixed when we actually made the bid.

My second question is around the freight cost, and I was hoping maybe you could give us some indication around how much of your cost base is related to logistics? But more particularly, when we think about your procurement, whether this is of components or whether this is of finished product. How much of this component of finished products are coming from Asia into the U.S., and from Asia into Europe, please? And whether your freight, kind of, condition or spot base or contract base?

Yes. So Lucie, the way to think about when you think about it in the first half, out of the $10.5 million, $5 million was freight cost. And when you look at our results for the company, what we see is pretty much $40 million which we missed is more U.S. driven and it has to do with some special suppliers. And then when you look on the freight costs, it's more on the European side where, actually, the impact happened because, obviously, much longer distances, and so on. I do think that when we talked during the presentation here. There are 3 effects. There is material nonavailability where we need to go to the gray market, there is material price increases and there's freight costs. And the freight costs are a very significant piece. If you think about the -- I think it was just on the news, Reuters news most recently, $24 billion of freight actually in front of Long Beach and Los Angeles, and 73 ships, normally it's 1 ship. And that all adds to freight costs because there's not enough capacity, much longer unloading. It's just -- it's an incredible situation. So the way we think about it, Lucie, is that this situation will go well into '22. I expect probably second, third quarter '22 before we see an easing. And, I mean, there are some analysts and specialists who [ saving ] into '23, I'm a little bit more positive on that. But it takes quite some time to unwind that. And especially when you think about just automotive came out most recently, instead of $110 billion impact, they have now $210 billion impact. That means they also talk to the same supply chain and make, obviously, crystals and semiconductors [indiscernible] and so on. So I think the situation will be stressed for quite some time.

And any chance that you can maybe help us understanding what's the weight of freight in your cost base and the nature of your contract around that?

Technically, when you think about our contract, obviously, these are fixed and firm contracts. But at the same time, I also would like to say, I mean, this is a very unusual situation. So we start upon some time ago to speak to a customer because obviously, it's an issue which is not just we own. It's a global, it's across industry situation which we have to manage. And so while these contracts are often public trends, which is much more difficult, but the freight costs, it's something, I think, discussion or not. I think, you know, we have these discussions, they are taking place. And I would say freight, as I said, 50% for the first half, I think it's a very significant piece in the second half. It will be probably something around 30% to 50%. Again, just shows you the magnitude of the whole challenge.

And just maybe my last question, you were mentioning, I think, in the call, a positive impact from a share of software and services on the mix. Are you able to maybe confirm the share of that business now as percentage of sales? And maybe the growth rate you have seen in the first half for that business, versus the 9% organic you reported for the whole group?

Yes, Elodie, why don't you take this question?

Yes. Lucie, basically, on software and services, we did see a positive impact in the first half, indeed, as I mentioned. And we don't specifically disclose percent of software and services as part of our business. But what I can tell you is, compared to prior year at the same time, we saw this year growing by about 2%, which is very positive for us.

Exactly, Elodie. And I think what we could add to that is when you think about these large contract wins in the U.S., we have up to 30% software and managed services, so that's a really positive thing. Remember, Lucie, we talked a year ago, we want to move up from this [ 18% ] software and services, and we are moving in the right direction. And now when you think about cybersecurity that we lend software, when you think about Etrel, Etrel is not just a hardware company, Etrel is also a software company, which will add. So these are all elements which actually will help us to increase the software share, including Google also. So -- so we are excited about that for us. Smart metering is the base for the engine for many years to come, but as we told you last year already, we would like to move more into grid edge and the smart infrastructure, and I think we are moving in that.

The next question comes from Jeff Osborne from Cowen.

I just had 2 questions, if you don't mind. One is on the -- could you characterize the level of quoting activity? So things that you're bidding today that might be awards in 2022?

Jeff, sorry, I had an acoustical problem, you said, can you -- What did you say?

I was wondering if you could characterize the level of quoting activity bids that you're responding to that might be awards in 2022.

Quoting yes, okay. Jeff, I couldn't give you a number, but what I can say in the U.S., my view is that you really have positive. We have a very active pipeline. As Jeff you and I talked before, I sit on the Grid Infrastructure Alliance Council in the U.S., and I'm exciting what's happening in the U.S. I mean $100 billion going into energy infrastructure, we really see -- we see good long-term, good short-term activity, which excites us not just with the IOUs. That means it's a large customers, 170 customers, but really also on municipal level, so I think it's really positive. We see also in Europe an increase. When we remember a year ago, we said, well, pretty low pipeline, we clearly see that increase, which is positive because if we think about -- the risk needs to become more dynamic. And for that, we need metering because we have EV charging, we have photovoltaics and all that, and we see that actually reflected in the market. So I would say, also, a good pipeline in Europe and the same goes also for Middle East, Africa.

Got it. That's very helpful. My second question was sort of responding to some of the questions around the price and margin outlook. What -- could you characterize what you're doing to qualify additional semiconductor suppliers? So what the backup plan is in the event that the semiconductor market is tight in 2022 and through the early '23 period, instead of going to the gray market, as you characterized it, to buy more expensive components. Are you qualifying additional suppliers so that you can lock that cost in?

Yes. To your question, Jeff, we are doing that. For example, where we redesigned certain things. You know that we are able, actually, to create a large supply chain. Obviously, that doesn't go overnight. For that, we need 3 to 6 months. But what I'm also doing is I talk every week to key suppliers and I think they respond pretty well. Obviously, as you well know, Jeff, we are sitting here in a huge [indiscernible] with many others, including consumer industry and automotive, as I said before. But I find, really, that these suppliers still responding relatively well given the challenges all of us are in. So these are the things we are doing. And then we have daily costs internal where we see actually okay in terms of production build. What are we doing, because sometimes we think on a Wednesday, things look good in terms of building the meters, and then on Thursday, there's a shortage coming up and so on. So it's really daily tackling and what we're doing. But these are the issues, Jeff, which I think it's our top priority for the next 8 months, probably.

The next question comes from Patrick Rafaisz from UBS.

Well, thank you, and good morning, everyone. I have 3 questions, please. The first one is a clarification. Werner, I think you mentioned the deferred revenues of $40 million that was -- if we allocate that across the region, that was mostly driven by the U.S., right? And where would you expect this number to end up as at the end of your fiscal year, given that you anticipate a bigger impact in the second half? That's the first question.

Yes. Patrick. So exactly. So that was mostly coming from the U.S., and that really depends in a little bit in terms of supply chain. I think the revenue which moved out a large part will be able to actually then realize in Q3, Q4 of fiscal year '21. However, there's obviously also other stuff moving out. So it's a pretty fluid situation, which we manage. But the good thing is, Patrick, what we are not saying that -- what we are not seeing is that these revenues are evaporating. Meaning that, for example, the competitors could deliver, and we can't -- we don't see that. You know what I mean? We really, I think, what we are doing is in line with our competition.

Okay. Okay. Understood. And then the second one, coming back to the product mix, and you described already earlier, the benefits from a higher share of software and services. But to what extent would you say that this was more of a temporary impact now in the first half, just given the sales mix? So in Europe, would you assume that you will manage to gain and increase the share of software and services in the next 2 to 3 years as well? Or is it really just driven by the better order intake in the U.S.?

So I do think that in Europe, we see a gradual improvement. I would say, in the U.S., it's a little bit different. When you look at the gross margin in the U.S., it's really incredibly high, and that's something which really has to do with a very favorable mix, which may be over time, we see a little bit the balancing out again. That's the way we think.

Okay. Okay. And the last question is on the Luna acquisition. Can you talk maybe about -- you mentioned that this is opening up new markets and new business opportunities. Do you see cross-selling synergy potential here as well? Or are you just upbeat on the growth outlook for the Luna assets per se without any cross-selling synergies?

We see 2 things. First of all, we are excited about Luna as a low-cost platform, what we are doing in terms of Turkish market, in terms of other mechanical metering markets like Africa, Nigeria and so on, so I think that's exciting for us. But in equally exciting, Patrick, is also the fact that we will be able actually to use Luna as a low-cost platform. And just when you think about the more recent transportation costs, when you think about transportation costs from China to Europe, I mean, we are talking here historical cost, x4 x5, I mean, incredible. So -- so to have this low-cost platform actually closer, I think that's great. Turkey is, in terms of costs, very comparable to China, and so we are excited about that, that we definitely want to do more in Luna as a low-cost platform also for other markets outside of the Luna portfolio.

The next question comes from Urs Emminger from Research Partners.

Actually, it's 2 things that surprised me somewhat. It's the cost of revenue that was way below my expectations. So the question here is, will it remain at that percentage of sales, more or less? And the other one is general and administration costs, which went up a little more -- a little bit more net. Will that also stay at that level? Or were there extraordinary things in it that you can cancel on for the next [indiscernible]?

Yes. Elodie?

I'm sorry, did you -- can you repeat your first question? I understood the cost of revenue, right? That was your question? The first half?

Yes, the cost -- cost of revenues remained almost flat compared to last year, and sales went up quite substantially. So the margin, percentage of cost of revenue compared to sales was improved a lot. These were the 2 things. And so will it stay there? What can we do?

Yes. Well, I think we understand. What he means is that, actually the gross margin went up quite a bit. If you could talk about that exactly, maybe also the admin costs. Yes. Yes.

The gross margin improvement. Yes. Yes. Okay.

Sorry, Urs.

Yes. Yes. So I'll [ start with ] the gross margin. So in growth in gross margin, we saw a number of impacts in the first half. One is that we had stronger operational leverage simply because we had a higher volume compared to the previous year, and so that plays into our margin. The second impact, as I explained, was the fact that on the mix, we had a favorable mix that we saw. We had a favorable mix we saw in the U.S. and also in EMEA, so you have these 2 impacts. And then counterbalancing that, in a way, was the supply chain costs that we experienced in the first half. And as well, the fact that we are investing into our transformation, 2% of revenue, as we previously discussed. So these are the big movements, I would say, in terms of margin percentages that we see. We also finally saw the, I would say, the positive impact from the restructuring activities that we're completing last year.

Yes. Exactly.

Does that answer your first part of the question?

No. Sorry. I understood everything of that. My question is, will it remain in the future? Or will any of those impact disappear one way or the other?

Yes. I think what we can say, I mean, from a gross profit level, I think that U.S. was very, very high, given the mix which we just enjoyed. So when you look at the revenue, the revenue relatively low with the $325 million, but then there was a very favorable mix. So what's to your question to that, that's not exactly sustainable.

Okay.

Okay. And then I will take on the other question, Urs, which was, I think, related to our level of SG&A in the first half and what are the movements there. I think here what we see now is a reversal of last year's onetime effects that were there on the COVID benefit, so this is now faded out. We did not have this positive impact anymore in the first half, so that's the part. And for the other part, as I mentioned, I mean, we are supporting our investments in our transformation, and that's a part of this effect, right?

The last question for today's call is from Daniel Koenig from Mirabaud Securities.

This is Daniel from Mirabaud Securities. I had a couple of smaller questions. I discovered the marketing and sales expense is virtually flat. Is that sustainable looking into the future? Then the other question would be, did I understand this correctly that you expect freight costs to go up 30% to 50% in H2? And then the final question is how much was the inorganic revenue contribution in H1? Because your guidance says 7% to 11% organically this year. So I was wondering how much is -- was the inorganic contribution in H1? And then the final question. Carbon neutrality, is that Scope 1, 2 or 3, your goal? That's it.

Very good, Daniel. So SG&A, we expect that pretty much to stay on the same level because when we did Hermes, we are sensitive about the cost. So percentage-wise, we expect that pretty much stays where we are. Freight costs. What I did say there, maybe just to clarify, I said around out of the $10.5 million, $5 million was about freight cost. And what I think in second half, when you look at the number, which we will see, I think, again, out of that number for supply chain costs, I think, 30% to 50%, again, will be freight costs. In other words, when you -- freight cost plays a very critical piece in the whole equation.

Okay. Now I understand it.

No, no, it's good that you asked, it's perfect. In terms of inorganic revenue, it's negligible. Elodie will talk in -- at H2. She will actually give then a much more refined picture because then we have actually Luna in, we have Etrel, much more. I think that's very important. But at the moment, it's pretty much nothing. And then carbon neutrality, Daniel, when we think about carbon neutrality 2030, that's Scope 1 and 2. That's the way we think. So Scope 1 and 2, carbon neutrality by 2030. [ With that ], I'm sensitive of your time. So I just want to say thank you all for your questions. I'm going to close the call here in a moment. But before that, I just would like to leave you with this slide as a reminder of the key takeaways of today's call. First, our record book-to-bill and backlog in excess of $3.2 billion, our testament to our leading technology and motivates us to keep developing and delivering leading-edge innovation to our customers. And I can tell you, our employees feel that every day. And secondly, we are proud that we were able to achieve a 10.1% adjusted EBITDA in this current environment and also create a solid free cash flow of $41.6 million. And then thirdly, as I mentioned, a reconfirmation of the guidance, but clearly at the lower end. With that, I do think we are convinced that we have the right strategic focus to drive future profitable growth. And I would like to thank all of you here on the call, our stakeholders and employees for the continued dedication, passion and hard work, which goes in every day. I want to thank you for joining us today. Stay safe and healthy, and I look forward to meet you all in the very near future, one way or the other, virtual or in person. Goodbye, and have a good day. Thank you very much.

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