Wärtsilä Oyj Abp (WRT1V) Earnings Call Transcript & Summary

Good morning, and welcome to this new session for Wärtsilä Half Year Results Presentation. My name is Hanna-Maria Heikkinen, and I'm in charge of Investor Relations. Today, our CEO, Håkan Agnevall, will start with the group highlights, business performance. And after that, our CFO, Arjen Berends, will continue with the key financials. [Operator Instructions] Håkan, please?

Thank you, Hanna-Maria, and welcome, everybody. To the summary of a strong second quarter. I think a solid quarter. Order intake, profitability, cash flow, all improved. Net sales increased by 7%, order intake increasing by 10%, and we are yet in a quarter with an all-time high order backlog at about EUR 7.6 billion. Comparable operating results increased by 63%, and we are at double-digit comparable operating margin. The good progress in service continues. Service order intake increased by 8%. Service net sales increased by 3%. And strong cash flow, it continues. We are in a very good streak there. EUR 216 million for Q2. If we quickly look at the overview of the numbers. As we said, order intake growing from EUR 1.7 billion to EUR 1.8 billion, 10% up. And we see that both services and equipment is growing 8%, respectively, 13%. So that's bigger growth in equipment. Order book up to EUR 7.6 billion. Net sales growing both in services and equipment overall, 7% from EUR 1.4 billion to EUR 1.5 billion, and then 3% in services, 12% growth in equipment. So also continued faster growth in equipment and in services. Book-to-bill now, 13th consecutive quarter with a book-to-bill bigger than 1, 1.19. And the operating results are following, up 156% to -- from EUR 66 million to EUR 168 million, basically 10.8%. And then on the comparable operating income, up 63% and reaching 11.3%. So a solid quarter overall. If we look at the Marine and the market sentiment, it's positive for us in -- for Wärtsilä in our key segments. And we see a continued good appetite for new ships in the second quarter. The number of vessels ordered in the first half year was increased to 1,069, up from 773. Investments in new ships were higher than in the first half of 2023, driven by increasing demand for ship capacity, solid average earnings across cargo segments, low order book mainly in bulk carrier and tanker segments and continued fleet renewal. If we look at the alternative fuels, the uptake remains on healthy levels with 242 orders reported during the first half of 2024, accounting for 23% of all contracted vessels or 39% of capacity. Newbuild ship prices continues to increase. And this is despite we see a growth in shipyard capacity, especially in China and South Korea. So for us, this indicates that there is still an ongoing shortage of yard capacity. If we do a similar outlook on Energy, the solid -- we see solid mid- to long-term market opportunities. There is continued uncertainty in the market environment in the second quarter. The macroeconomic development in Q2 was influenced by protectionist policies, with trade risks elevated by development of the recently imported tariffs by U.S. and EU. The market for engine power plants were stable with good activities, especially in the U.S. The natural gas prices rose in Q2. Commodity pricing overall was stable, despite elevated uncertainty on the geopolitical side. The energy transition continues to advance. And if we look at the latest Bloomberg numbers, Bloomberg expects wind and solar to continue to grow, wind with 6% and solar with 32%, in 2024. In AI, there is a lot of talk these days about AI and its impact on the global electricity demand for data centers. Today, data centers account for about 1% to 2% of global electricity demand, but we see this increasing and potentially doubling its share until 2026. Looking at the numbers again. Organic order intake increased by 12%, so order intake increased by 10%. Equipment order intake increased by 13%. Service order intake was up with 8%. We have a record high order book, and the book-to-bill continues above 1. Order book delivery schedule in Marine is slightly longer due to constraints in the shipyard capacity. This is something we already saw in Q1. We see it in Q2 as well. You could also see that we are building up a healthy order backlog, not only for this year but also for next year. Organic net sales increased by 9%, so net sales increased by 7%. Equipment net sales was up with 12% and service net sales was up with 3%. Profitability continues to improve step by step. So net sales of course helped, with increased net sales of 7%. Comparable operating results increased by 63%. Now, technology and partnerships. As we all know, that is about innovation in service and technology, focusing on enabling the decarbonization of Marine and Energy. And I think we have 2 great examples here during the second quarter. First, we launched the world's first large-scale, 100% hydrogen-ready engine power plant concept. So this is 100% hydrogen-ready engine power plant concept based on our 31 engine, and it has now been certified by TÜV SÜD. And you see they have a certification process that consists of 3 stages, and we have now achieved the first stage of certification, which is about the conceptual design of the engine power plant for 100% hydrogen. And we expect to open up for orders in 2025, and also having the capability to deliver in 2026. Now another very interesting examples also from energy and related to data centers, we have recently signed an agreement, a cooperation agreement with AVK to deliver on-site power generation for data centers. So basically, it's us and the energy solution business, AVK-SEG. We have signed a cooperation agreement aimed at meeting data centers' unique power requirements. And data centers, as we know, are essential in ensuring business -- that businesses and organizations can store, process and manage their data and operations securely and efficiently. We will provide our engine equipment and maintenance support, and AVK does the integration. And Wärtsilä and AVK, we actually already have 2 energy projects running in execution for data centers on Ireland. And the cooperation agreement was signed in May. Now looking at our businesses, and we start with Marine. The good performance continued. Order intake, net sales and comparable operating results increased. Order intake was up with 17%. Net sales was up with 8%. And if we look how the comparable operating result is evolving, we could see positive drivers in higher service volumes and also recovery of newbuild margins. Then dragging a bit is the increased R&D cost that we talked about before. We invest overall, in Wärtsilä, 3% to 4% of our net sales into R&D, focusing on decarbonization. If we look at Marine Service business, there continues to be good development. Marine's net sales to agreement installations is increasing. You see the curve here. It's going in the right way. It's a positive underlying trend. We also have our retrofit business. So we are bringing a great example from a recent retrofit win. It's basically we're going to work together with Scandlines to convert 2 of their ferries to plug-in hybrid operations. So we will provide the electrical systems needed to convert these 2 ferries to plug-in hybrid solutions. And the project involves replacing one out of the several engines on these 2 ferries, with a new shore-charged electrical system, including a large energy storage system. And the conversion is a key element in Scandline's target to achieve emission-free operation on the route by 2030. On hybrids, Wärtsilä will continue to be the market leader. And we see hybridization as one major retrofit opportunity overall on the marine side. And this particular Scandline order was booked in Q2. If we go over to Energy. The comparable operating results increased, Equipment order intake decreased driven by lower orders in our Energy Storage & Operations (sic) [ Energy Storage & Optimisation ], while orders in EPP actually increased. So you can see order intake is down 6%. Net sales is down 2%. And if you look at the waterfall on the EBIT side, the positive drivers was about recovered profitability in new equipment and also positive service revenue mix. We had -- we were affected a little bit by lower service volumes. However, this is mostly related to high levels -- comparable levels, same quarter previous years. The underlying trend in services is positive. If we look at Energy Storage & Optimisation, the comparable operating result margin, we look at this on a 12-month rolling, continued to improve. And we do see the business developing in a positive way. Order intake, this is a lumpy business. So there is some periodization effects. Also, of course, material prices have come down. So if you look in megawatts, we continue to grow, but the order intake is down a little bit in this quarter. However, the underlying trend is positive. Energy service agreement coverage continues to improve, also on the Energy side. And here, we have one of the examples that forms the basis of this continued growth. So this is an example from Nigeria related to our customer cement plant. So we basically signed a 10-year operation and maintenance agreements for a captive power plant producing the energy for a Nigerian cement plant. And the plant is owned by Mangal Industries and is located in the Kogi State in Nigeria. The O&M agreement is designed to ensure reliability of the power and energy production to support the production of the cement factory, producing [ 3 million tonnes ] of concrete year. Uptime reliability is key. And this order was booked also in Q2. Comparable -- if we take the full bridge Q-on-Q from Q2 last year to Q2 this year, we see the step-up in profit margin from 7.4% to 11.3%. We see improvements in all businesses and in our Portfolio Business. And Marine going from 11.5% to 13.5%, Energy from 7.1% to 10.5%, and then you see Portfolio Business going from a negative 15% to positive 4.6%. But then you should know -- remember in Portfolio Business in the second quarter of last year, we took some significant provisions in the Gas Solutions business. So that makes this big jump in Portfolio Business. Comparable operating result increased by 63%. And also a very important comment is that the comparable operating margin percentage typically reaches it's high in Q4. However, in 2024, we do not expect to see that given the mix impact from the increasing equipment deliveries during the second half of 2024. So both newbuild and services are growing. But during the second half of the year, newbuild will grow faster, and therefore, this effect. Other key financials. Arjen, please?

Thank you very much, Håkan. Looking at the other key financials, basically, all the parameters improved compared to the comparison period last year, whether you look at it from a quarter perspective or from a year-to-date perspective. Actually, they also improved compared to Q1, except for one, which is the cash flow from operating activities, which ended about EUR 40 million lower than in Q1. Having said that, let's say, we are, of course, very happy with our cash flow in Q2. It's a strong cash flow after a very strong cash flow in Q1, but also after a very -- a record high cash flow actually in 2023 overall. Good cash flow, of course, contributes also to, let's say, net debt ratio as well as gearing ratio improving further. Earnings per share, also clearly up from comparison periods, also up compared to Q1. Good profitability also supported that our solvency ratio could go up from 34.8% in Q1 to 34.5% -- sorry, 35.3% now in Q2. Very good statistics overall. If we look at this slide, let's say, left side, cash flow generation. We generated actually over EUR 1 billion, almost EUR 1.1 billion of cash, operating cash over the last 12 months, which is, of course, very, very encouraging, and we're very happy with that. Contribution came both from, let's say, improved operating results, but also clearly, let's say, from the working capital. And as you can see on the right side graph, working capital continued to develop, let's say, more negative, which is, of course, good for cash flow. Very strongly driven in the working capital is, of course, the good order intake, let's say, the milestone payments that we get from customers also during execution of the contract, clearly supporting the negative working capital. Having said that, we still believe that this is a bit of an extraordinary. And as I said, it links very much to payment and execution milestones in your order book basically. So it's an extraordinary number still, I believe, this negative one. With these words, I give it back to you, Håkan, on the prospects.

Thank you, Arjen. So if we look at our prospects, both for Marine and for Energy, we expect the demand environment for the next 12 months to be better than of the comparison period. So we continue to see positive market sentiments overall. All right. That was the quick summary. Let's go over to the Q&A.

Thank you, Håkan. Thank you, Arjen. So let's move to the Q&A session. [Operator Instructions] So handing over to the operator, please.

[Operator Instructions] The next question comes from Vivek Midha from Citi.

Thanks very much, everyone. I have -- my question is on your commentary around the Q4 margin. Should we expect the margin in the second half to be below that of the first half? Is there any more color you can give us on what we should expect as we go towards the end of the year?

I would say relative, yes. That's the answer. And it's a consequence of, let's say, the faster growth of equipment business, which is typically, let's say, lower margin versus the growth of the service business. Which both are still growing, but let's say, one is growing faster than the other.

And just to underline because I think we have also got some questions, we are talking about margin percentage. We are not talking about absolute margin.

The next question comes from John Kim from Deutsche Bank.

I was wondering if we could spend a little bit of time on service. If we look at the net sales growth in the quarter, 3%, can we unpack that a little bit to understand whether that's a time and place effect? Can you give us some sense of what the underlying growth is on transactional or the activity levels that underpin the service? And do you see the Q2 growth rate being or the Q2 delivery being impeded at all by the yard capacities or component availability?

So I mean on the Marine side, I think we continue to grow also in this quarter in a very good way. On the Energy side, this quarter, it's a little bit slower. But as I said before, it's related to what we did same quarter last year where we had certain service projects coming in. So also on the services side, and we talked about that before, there are service projects, retrofits, upgrades, et cetera. So if you compare Q-on-Q, it looks like the growth is slowing down. But as I said, overall, the underlying growth is certainly there, so to say. I don't know if you want to complement...

Exactly today, you talked about the comparison period, but actually service projects activities today are, let's say, quite in an uptick, actually, both on Energy and Marine. So meaning retrofits, overhauls, et cetera, that's really active today.

And our Energy service order backlog is currently at all-time high. So we are on the right path. But as I said, we -- this quarter, it looks a little bit slower in energy.

The next question comes from Daniela from GS.

I'll stick to one as well. Can you talk about the working capital profile? And after the various changes you have done with the business, what do you -- what should we think about as the normalized working capital profile given your comment on the negative not be repeatable in being more one-off, what would you recommend?

We are doing very well in working capital, as you have seen from the graphs. We also do see -- if you look longer-term perspective, basically. Let's say if you take the 5-year average line that we had in Q1 in the same graph that I was just showing, I think it was 4.7% on the ratio to sales, now it's 3.6%. If you go even longer back, let's say, we have for as long as I can remember, had positive or -- let's say, we have positive working capital, now we are running a negative working capital. In that sense, I would say it's an extraordinary level. I think we can still maintain this negative level for some time. But at some point of time, I don't think it will be as low as it is today. I think it will go up again. Will it then turn to positive, okay, and how quick? Let's see. That depends very much to the order profiles and the business profiles, let's say which businesses are very active in the order book basically. As an example, let's say we book orders now even for delivery, let's say, 3, 4 years out, and if you get a nice down payment of some millions, the cash out is way later. So order intake is very connected to, let's say, working capital development as we see it today.

The next question comes from Max Yates from Morgan Stanley.

Look, this isn't my question, but I just really want to kind of clarify exactly what you said on EBIT margins because it wasn't entirely clear to me. Could you just confirm, I think what you said is that you expect the second half EBIT margins to be below the first half. Could you just confirm that's what you meant by that comment?

Percentage-wise, yes.

Yes. Okay. Understood. And look, I guess my question is just around the Marine margin. You've obviously talked about kind of ship pricing going up, shortage of shipyard capacity. I guess I just wanted to understand, when you look at the sort of, I guess, the last 10 years and you think about the sort of competitive landscape in this business, so supply-demand of a lot of the products that you sell, do you see a much better -- or do you see anything that's structurally changed in the environment to make you think that margins kind of in Marine can be structurally higher than where they've been historically for your business, whether it's mix, competitive landscape or anything else?

So if I may start. So -- and please note that I just add a comment on the EBIT margin. This is consistent with what we have said that the second half of the year, we will have a higher mix of equipment deliveries, so to say, especially in Energy. So that's not a new message there. It's consistent. Then coming back to Marine. And if we start with the shipyards and then we can talk Wärtsilä. I think -- I mean, when you look at the numbers, I think shipyard capacity has been slowly going up since 2020. Of course, in a much lower rate than it used to do way back in the boom days. And our view that it will probably continue to increase but in a steadily rate, so to say. We do see, if you look at different segments, relatively high activity level on newbuild. I think with the decarbonization transformation and the need to upgrade, that will probably also drive demand for shipyard capacity. So currently, it there is a shortage of capacity. It will grow. But in our view, it will not be the best that we saw many years ago. It will be more staged growth. If we look at Wärtsilä and our journey on the -- in the decarbonization transformation of the marine industry, I mean, we are positioning ourselves as a technology leader. And of course, that should give us opportunities for price realization. Also, as we talked about when we went through the waterfall, we are recovering from order backlog that was heavily impacted by the significant inflation that took place or accelerated in the beginning of 2022. That affects -- or has affected Marine side, has also affected the Energy side. So we are coming after that.

The next question comes from Akash Gupta from JPMorgan.

My question is on your outlook statement. And I just wanted to clarify that this demand outlook in Marine and Energy, does it take into account potential U.S. elections later in the year? And I think if you look at the current situation then that are arising out of a Republican victory and I think the market is worried about potential tariffs. So I just wanted to know, have you already incorporated that in your demand outlook or there is additional risk to your demand commentary?

No. I think we have accounted for all the geopolitical items, so to say, including U.S. elections, et cetera. So that has been factored in. I mean one tidbit of information if we are talking about U.S. tariffs on batteries, that has been implemented on an immediate basis for electrical vehicles, but it will be implemented in 2026 for batteries for energy storage. But we have considered, with the best knowledge we have and the capabilities we have, all the different factors.

Maybe just a clarification. I mean, last time when we had similar situation, was there any impact on Marine demand, so to speak, or there was no impact on Marine orders?

Sorry, can you clarify your question? I didn't get it.

Yes. I mean -- I meant last time around in 2017, '18, when we had Trump tariffs, was there any impact on the Marine demand? I'm sorry, I was not covering the stock back then, but just to check whether there was any impact or there was no impact on Marine demand as such from the tariffs?

I need to really dig in my memory, this is a long time ago. But at least I don't recall, let's say, any serious impact at that point of time. But it's a bit too long ago to really exactly remember, but we can, of course, check that.

I was not serving in the company in those days. That's why I asked Arjen to reflect on this.

No worries.

This one, I don't remember. But I don't, let's say, remember any significant negative out of that time. So yes, probably not that much. Let's say, typically ships sail no matter what happens politically. As long as there is a need for transport, then ships run. And let's say, our service business correlates with running hours of ships and running hours of power plant, so I don't think there was a big impact.

The next question comes from Panu Laitinmäki from Danske Bank.

Yes. I wanted to ask about the data center cooperation. Can you talk a bit about the potential that you see there? I understand it's early stages, but any idea of like how big would the potential projects be for your margin profile, or anything at this stage that you could share with us?

So I think we are still at an early stage in this. I think what we see now is that with AI -- I mean, if we take a general logic, with AI, the need for storage is increasing. And the storage centers will get bigger. And therefore, the power needs will also grow. Now traditionally, power has been taken from the grid and there has been a kind of a standby facilities with high-speed engines. Now as power demand is going up, then the situation becomes different. I mean now we are talking about 10, 30, 50, 60, 100 megawatts. And then the data center is not only about data, it's also about energy. And that could give us further potential growth going forward. I think this collaboration is a vital part for that. But I think it's a little bit too early to really go specific on the numbers. It looks promising, and we will get back on this further down the line.

The next question comes from Sven Weier from UBS.

My question was also on data centers, and I was just wondering now that you addressed the European market, how you intend to address obviously the much bigger U.S. market opportunity?

It's a very relevant question. I mean myself meeting with utility customers in the U.S., they confirm also that there is a lot of interest from different parties that want to build data centers. There's a lot of interest for energy and feeding energy. So utilities in the U.S., there are certainly -- not only the utilities, but the whole power spectrum of power providers in the U.S., they are looking into this now. So there should definitely be opportunities. But as I said before, it's a little bit too early for us to get back on who knows, numbers and potentials. We are working on this, and we will get back, but at a later stage.

The next question comes from John Kim from Deutsche Bank.

Just a follow-up on storage, please. It appears when I kind of back out the Q2 profit and margins for storage, it looks quite good sequentially. Is this -- [indiscernible] my question. Do you feel these margins are sustainable given the dynamics in the industry, i.e., deflationary pricing on battery packs, your focus on certain markets and certain customers?

So in short, I think they are not only sustainable, I expect us to step by step, on a continuous basis, improve the margins. So that's one thing. Now to your question about decreasing lithium prices or battery prices, that is a pass-through to the customers. It doesn't affect our margins. Now of course, you're right in the sense that it's a very competitive space. So there is certainly competition. And I would say that the competitive forces are growing. But I think what our storage team has done is really to step-by-step improving their operational execution capability in terms of risk reward, in terms of realizing -- delivering on time, on budget, with the right quality, and therefore, also to be able to realize profit, so to say. So I think what is driving the profitability improvement is the underlying operational performance.

The next question comes from Sean McLaughlin from [ analyst ].

Can you hear me? A broader question about your long-term EBIT margin target. If I think back to the 3 pillars that you outlined in order to get to this, it feels like those 3 pillars really are all there, particularly now that we look at the storage profitability piece. How should we think about 12%? It feels from the first half, like you're near there. Clearly, you're guiding down in the second half. But is that now looking, in your view, a now a conservative target?

Well, I would say that we are on a solid path to reach our financial targets. I think we have been consisting in communicating that, and we do feel comfortable about reaching the targets. I think it's premature to have this discussion about revising the financial targets. I think let's first make the EBIT target and then let's see how we think about that going forward, so to say. But as I said, we continue to be confident in our path, a solid path to reaching our financial targets.

The next question comes from Mikael Doepel from Nordea.

Yes. And just a very quick question on the Energy storage business. You talked about the profitability improvement there already. I guess it's a lot of question about the revenues as well coming up from last quarter. But could you talk a bit about the market environment overall? I mean how do you see demand going forward? Do you continue to see ample opportunities in this there? And also related to this business, is there anything you could say about your time line with regards to the strategic review of the assets?