Q2 2023 Telefonaktiebolaget LM Ericsson publ Earnings Call
Speaker 1: It.
Speaker 2: Hello everyone and welcome to this call covering Ericsson's second quarter 2023.
Speaker 2: Winner today, as usual, I have our President and CEO Boer Gjekoal and our CEO Kål Milander.
Speaker 2: Usually we will start this with a presentation and end with a Q&A session.
Speaker 2: And then in order to ask questions you need to join the conference by phone. Remember that. Details can be found in today's press release and on our website ericsone.com slash investors
Speaker 2: Please advise that today's conference is recorded.
Speaker 2: But before handing over to Barry and Karl, I would like to read the following.
Speaker 2: During today's presentation we will make forward-looking statements. These statements are based on our current expectations and certain planning assumptions, which are subject to risk and uncertainties.
Speaker 2: The actual results may differ material due to factors mentioned in today's press release discussed in this conference call.
Speaker 2: We encourage you to read about these risks and uncertainties in the Earnest Report as well as in the Annual Report.
Speaker 2: With that said, I would like to leave the word to you Boris. So please, Thank you, Peter. And good morning everyone. Big thank you all for joining us for this second quarter report. I'm happy to present the quarter where we continue to execute on our strategy to build a stronger and more profitable Ericzone for the long term.
Speaker 2: many years, but on the other hand we see India growing very very fast.
Speaker 2: Our strategy, as you all know, is focused on three priorities. The first one to bolster our leadership in mobile networks. Second is to grow our enterprise business. And thirdly, drive a cultural transformation of the company.
Speaker 2: Mobile networks continue to be the bedrock of Ericsson. With about half of the world's 5G traffic outside of China carried through our radios, we are a leader in the market. And we remain fully focused on continuing to strengthen this leadership position.
Speaker 2: In parallel, we're using our expertise in advanced cellular networks to expand into the fast-growing enterprise market. And that will substantially increase our addressable market, diversify our portfolio and puts us on a higher growth trajectory.
Speaker 2: In our platform business, we're developing new ways to monetize 5G's unique features, like speed, latency, etc.
Speaker 2: Operators and enterprises are showing great interest in this area and it will allow them to differentiate their offerings and start to develop completely new use cases.
Speaker 2: We're also continuing our relentless focus on enhancing our compliance program to make sure that it's fully embedded throughout the company. With that, let me now go through some of the key takeaways from the quarter.
Speaker 2: As we said before, 2023 is a choppy year and Q2 developed much in line with our expectations and what we have said to the market. We continue to execute with discipline and focus.
Speaker 2: Our overall sales declined by 9%. The decline in networks was partially offset by organic growth in cloud software and services and a 20% organic growth in enterprises.
Speaker 2: The EBITDA margin, excluding restructuring charges, was 5.7%.
Speaker 2: And by delivering a record build-out, we now have a leading market share in India as well.
Speaker 2: As expected, we saw softening in other markets, primarily front-running 5G markets, and that includes of course North America. And that's something that we have discussed with you before as well, where we see the build-out pace being moderated, but we also see customer inventory levels.
Speaker 2: being rebalanced. And despite this big mix shift...
Speaker 2: between our geographies, we could deliver a networks gross margin of over 39%.
Speaker 2: In cloud software and services we continue to execute on our revised strategy to reach profitability and we are on track to reach at least breakeven for the full year.
Speaker 2: In Enterprise, we saw a strong growth in Enterprise Wireless Solutions and we're also happy to see a positive EBITDA in global communications platform.
Speaker 2: And we sourced sales from Vonage current communications API offerings to grow by 19%.
Speaker 2: And you all know the importance of IPR for our...
Speaker 2: how to reach our long-term financial targets. And of course that's built upon our strong technology leadership position.
Speaker 2: And in the quarter, we were able to secure another important 5G licensing agreement with the device vendor that puts us well on track to further strengthening our IPR revenue base into 2024.
Speaker 2: We're also addressing areas that's in our control. So when we are in the market, as we are today, that's challenging. We are intensifying our efforts on the cost-out initiatives and we are well on track to reduce our annual run rate by at least 11 billion.
Speaker 2: And this will start to positively impact the P&L over the coming quarters, already now in the third quarter, but have full effect during 2024.
Speaker 2: The overall performance in the quarter is really a testament to the underlying strength and resilience of our business and our ability to adapt and execute in a challenging macro environment. With that, let me hand over to our CFO Carl Melander to really go into the numbers. Thank you, Burya, and very good morning to everyone on the call.
Speaker 2: So as you saw this morning the results that we published came out according to our expectations and per the guidance that we had issued in connection with the first quarter report.
Speaker 2: I'll start by having a look at the development in the different market areas and I'll comment on some of them if we go to the next slide please.
Speaker 2: So looking here at the geographies as Burya said.
Speaker 2: We saw rapid five-year rollout in India, very clear, and network sales in India doubled year over year. This resulted in an organic growth in our market area called Southeast Asia, Oceania, and India by 71% organically year over year.
Speaker 2: And our strong growth in this market area partly offset the softening as we have discussed many times in the North American market. This was as expected and the decline there in North America was 42% year over year organically. Due to lower cap expands as anticipated and also reductions of customer invent.
Speaker 2: in Latin America, which actually was the largest market area for us in terms of sales in this quarter. We saw a decline in Europe by 6% organically.
Speaker 2: But in Latin America we recorded the growth of 3% organically mainly driven by additional 5G deployments in Brazil. And overall this resulted in a 3% decline for the market area as a whole.
Speaker 2: If we leave this and then zoom in on how all of this came together in the group P&L.
Speaker 2: So our reported sales in the quarter were 64.4 billion Swedish kronor. That is a decline by 9% organically due to all the reasons discussed on the previous slide. So I will not repeat that but let me jump directly to Grossmordin.
Speaker 2: Gross margin, excluding restructuring, declined by 390 basis points year over year to 38.3.
Speaker 2: And this is primarily due to the lower sales and lower gross margin in networks due to the continued change in business mix combined with large roll-out projects which come with initially lower margins.
Speaker 2: because there's a large portion of service content in those, but they also improve the margins over time.
Speaker 2: In gross margin we also see positive impact from the increased IPR revenues. IPR revenue increased by 1.7 billion year over year to 3.2 billion Swedish crone in the quarter and this increase was mainly driven by
Speaker 2: One contract signed in Q4 2022 but also the new licensing contract signed in this quarter that Buri already mentioned.
Speaker 2: So our Q2 numbers I should say that also include revenue for the past unlicensed quarters in accordance with this new IPR contract.
Speaker 2: Cloud software and services cross-moding excluding restructuring was 33.9%. This is a slight increase 40 basis points year-over-year supported by higher sales.
Speaker 2: but also improved delivery performance and the higher IPR revenues helps as well in this segment.
Speaker 2: And then in Enterprise gross mauding excluding restructuring decreased to 46.3% from 52.8% and this is really due to the consolidation of Vonage into Ericsson with a lower gross mauding than the remaining part of the Enterprise segment.
Speaker 2: Further down the P&L, then R&D and SCNA increased year over year and aside from the FX impact here which stands for about 25% of the increase.
Speaker 2: This mainly comes from the addition of Vonage but also further investment in R&D as well as go-to-market activities in enterprise wireless solutions.
Speaker 2: All in all, group EBITDA margin excluding restructuring was 5.7% which is again in line with our expectations.
Speaker 2: And the year-over-year decline that you see again mainly impacted by lower gross income from networks but also the increased investments that we undertake in enterprise and the consolidation of that Vonage.
Speaker 2: Can also mention restructuring charges 3.1 billion in the quarter. This is mainly for redundancy costs related to the cost reduction activities.
Speaker 2: We still estimate the restructuring cost to amount to 7 billion Swedish kronor for the full year.
Speaker 2: And as a result of this amount of restructuring as well combined with the other factors in the P&L, we reported a net loss this quarter of 0.6 billion compared with net income last year of 4.7 in the corresponding quarter.
Speaker 2: Also want to mention that if we look on the rolling four quarter basis sometimes that's a better metric and then our beta margin was 9.1%
Speaker 2: Also want to mention that if we look on the rolling four quarter basis sometimes that's a better metric And then our beta margin was 9.1 percent and as you know the long-term target.
Speaker 2: is 15 to 18 percent beta margin.
Speaker 2: We can move to the next slide to have a look at cash flow now. Cash flow from operating activities decreased to 2.9 billion from 6.3 billion.
Speaker 2: 2.9 billion negative. And this is mainly due of course one to lower EBIT but also increase in working capital year over year.
Speaker 2: And why did working capital increase? Well it's primarily driven by the business mix shift.
Speaker 2: the same aspects that impact the P&L including this very large rollout projects which have longer order to cash cycles than the front runner 5G markets have had so this is an impact on working capital but temporary.
Speaker 2: And also cash flow was impacted by the payment of the fine related to the resolution with the US Department of Justice of 2.1 billion Swedish kronor, which was provisioned in an earlier period, but paid in the second quarter.
Speaker 2: We saw a small reduction of inventory so that's good to see inventory coming down. This is Stephen both by the components coming down and and finish goods as well and of course this supported cash flow in itself. So result of all of this is a free cash flow before M&A at minus 5.
Speaker 2: billion Swedish kronor. To that we can add M&A activities 0.9 billion which was a result of cradle points acquisition of Ericom which we have announced earlier and we do that acquisition to strengthen the 5G offering in the in the cradle point or enterprise wireless solution portfolio. Rolling for quarter basis I return to that.
Speaker 2: and this really remains key focus area for us.
Speaker 2: For Q3 we don't expect any significant changes in working capital, but in the second half of 2023 we do expect a positive free cash flow before M&A, with Q4 as a strong cash flow quarter in line with our historical patterns.
Speaker 2: I can only also mention here that we paid out the first dividend installment in the quarter as well amounting to totally 4.6 billion
Speaker 2: summing that up closing that net cash position then ended up at 1.9 billion Swedish kronor while gross cash is at 35.7 billion
Speaker 2: So here we continue of course to execute on the funding plan. We have to refinance the maturities we have in the debt portfolio and add those for new sources. And among many activities in corporate finance we have launched a commercial paper program in the quarter.
Speaker 2: And we signed an additional facility for half a billion US dollars for general corporate purposes as well.
Speaker 2: Finally for me let's look at the outlook for next quarter, the third quarter 2023. Couple of items to pay attention to. First of all we expect gross margin for networks to be in the range of 38 to 40 percent in this third quarter.
Speaker 2: with very similar trends and mix as we saw in Q2. We have less IPR revenue due to catch-up revenue in Q2, but on the other hand some support from cost-out.
Speaker 2: OPEX and here we exclude Vonage typically decreases seasonally with 0.7 billion from Q2 to Q3 but of course as usual we have large variation between quarters. We expect now cost reduction activities to start to have an effect in Q3.
Speaker 2: but still rather small but increasing over time quarter by quarter going forward. It's going well in terms of executing on cost out.
Speaker 2: And we are aiming at a run rate saving of at least 11 billion Swedish kronor by end of this year, of which 45% is related to opex.
Speaker 2: For cloud software and services we expect Q3E beta to be in line with Q2 and we will, according to our estimates here, and we're committed to the reach at least breakeven for full year 2023. Group beta margin. We expect Q3E beta to be in line with Q3E beta.
Speaker 2: Again, excluding restructuring of course in Q3 is expected to be in line with or slightly better than Q2. Again, similar trends, similar business mix, early benefits of the cost-out execution and then followed by a seasonally stronger fourth quarter.
Speaker 2: Thank you all for that and with that I hand it back to you, Booyee. Thank you, Korn. So our strategy is really working and we are leveraging our technology leadership in mobile networks as well as taking the critical steps in our ambition to grow in enterprises.
Speaker 2: As we look ahead, I think it's important to single out that the fundamental driver of network capex is really the continued data traffic growth.
Speaker 2: And we see that 5G really continues to grow very fast. We currently forecast...
Speaker 2: 5G subscriptions to be about 1.5 billion by end of 2023 and reach 4.6 billion by 2028. We also see that the data traffic in the network continues to grow and we also start to see new type of use cases called fixed wireless.
Speaker 2: adding on cost and energy efficiency. And you know CO2 footprint starts to be more and more important.
Speaker 2: we see that that will stimulate further investments.
Speaker 2: In addition, we see that three-quarters of all base station sites outside of China are not yet updated with 5G mid-band.
Speaker 2: So this in combination with the migration to 5G standalone will basically continue to drive the need for investments in 5G networks around the world.
Speaker 2: So we are confident that the market will recover and that's what we have said for several quarters and as a consequence of these factors, of course the exact timing of the recovery will be in the hands of our customers.
Speaker 2: But we are encouraged by the discussions we've had with the several customers where we see a recognition of the need to strengthen capacity in the network. That said, we expect a gradual recovery towards late in 2023 and then improve in 2024.
Speaker 2: When that happens Ericsson is really well positioned to benefit and based on the unexpected recovery of the mobile network market we remain focused on reaching the lower end of the 15 to 18 percent EBITDA margin target in 2024.
Speaker 2: So to sum up, we continue to navigate the current environment with discipline and focus, we're delivering on the cloud software and services turnaround, we do portfolio adjustments, we will enhance the R&D productivity.
Speaker 2: We see IPR revenue growth and we will continue to execute on our cost reduction.
Speaker 2: And of course in an uncertain market to really impact what we can impact that's under our control is critical. So we have accelerated our efforts on the cost out like we spoke about last quarter in preparation for a tougher market condition. But we remain ultimately focused on our key strategic priorities.
Speaker 2: to drive technology leadership in mobile networks.
Speaker 2: expand or leverage the capabilities we have for cellular networks into expanding in the enterprise space that increases our addressable market and growth potential and finally to strengthen our culture.
Speaker 2: With that, I would really like to thank all the fantastic people in Ericsson who has made this position we've achieved today possible. A big thank you to all of you.
Speaker 2: I would really like to thank all the fantastic people in Ericsson who has made this position we've achieved today possible. A big thank you to all of you. With that back to you Peter.
Speaker 3: Thank you, Maria. So it's now time for the question and answer session. And as a reminder again to ask a question you need to press star 1 and 1 on your telephone and wait for your name to be called out. If you're streaming the webcast please mute the webcast audio.
Speaker 3: whilst asking questions to minimize any kind of sort of audio feedback.
Speaker 3: So, our first question now comes from the line of
Speaker 3: Alexander Petrek. Good morning Alexander.
Speaker 4: Yes, good morning. Good morning to all of you and thank you for taking my question. I'll just have a first one which is a bit denser than a very small follow up if I may. So my first question is really, there's a disconnect between your guidance of 15% EBT margins in 2024 and consensus which is currently at 11.5.
Speaker 4: Now the jump in EBIT A that is implied in your ambition or guidance
Speaker 4: It's almost 20 billion SEC now and that's almost double your planned annual cost savings run rate, which is 11 billion, some of which will already be in the 23 numbers already in the base. So I just like to understand where exactly is consensus getting it so wrong? Is it the market mix? Do you see much more substantial growth into 2024? Apparently will.
Speaker 4: getting it so badly wrong. Thank you so much.
Speaker 2: Maybe I can start. The fundamental premise for our targets for 2024 has been what we see as a recovery in the market. And you have to factor that in. And that to me is of course impossible to say exact timing when that will happen.
Speaker 2: not sure is factored in. One is IPR revenues that we see will continue to grow into next year. We also see that the fundamental turnaround of our cloud software and services will provide a strong support next year and we will also see some portfolio adjustments that we have already spoken about before to provide support.
Speaker 2: So, yes, we do continue to focus on reaching that target for next year. And we've said we should be in the lower end of that range. We are focused on reaching that and that's why we're trying to be as aggressive as we can on the items we can control right now.
Speaker 4: The second question, if I'm right. Yeah, just a quick follow up. I do feel that your message for the recovery has slipped by about a quarter. You mentioned before, I think in Q1 we spoke of a gradual recovery in the second half and now basically third quarter is very similar to the second with a slight improvement in the EBT.
Speaker 2: a softer market that we've said since the end of last year. And of course, it's very hard to predict the exact timing when customers will buy. What we see is the network quality around the world, actually, many markets starting to deteriorate. And of course, that's the bringing us to a 92 percent rivalry. And of course, of course,
Speaker 2: provides the basics for the for the investments exactly when that's going to happen I feel that you know it's in the really in the hands of the customer so it's in the hands of their view of capital market their view of prospects in the business for for increasing revenues etc so that that's
Speaker 2: a little bit difficult to say. With our current visibility we believe it's realistic to plan for that to happen later in 2023. Is it later or earlier than we have said before? I don't really know. If anything, probably fair to say that it's slightly later.
Speaker 2: But it's not a dramatic change in outlook that we tried to say already last year. In the end of last year we spoke about the
Speaker 2: slower build-out pace that we expected. We spoke about the inventory adjustments our customers are making. Of course, as this quarter continues, there will be less and less of the inventory adjustments. So that will provide support for the market recovery and looking better towards the end of the year.
Speaker 3: Thank you very much.
Speaker 3: So let's go to the next question and we'll see we'll have the next question from Francois Bourgne from UBS. Good morning Francois. Good morning. I have two quick ones as well. So the first one is on the follow up to Alex's question on the industry.
Speaker 5: maybe the bode what you said on the inventories So you you were impacted by inventories correction and you are still now in Q3 Do you have any estimates of where we are in this inventory correction? I mean in other words
Speaker 2: versus a normal level at your customers, where is it now? Do you have any intelligence to provide some color around this? Yep, Francois, maybe I take that one. Yeah, so we, as you said, we saw this happening in Q1 as anticipated and also in Q2. It will continue to some extent in Q3 as well. And that's why we talk about a very similar...
Speaker 2: the second half stronger a half than the first half this year.
Speaker 5: Okay, thank you. And maybe a longer term, Borghe, you talked about the 75% of all base stations outside China not yet updated with mid-band. And the question is not if, like you mentioned, we don't know if it will happen, but – The question, was that the first time the company was taking any of the corporateyping000 — Matt union was going to say where Peel had thank YOU with
Speaker 5: I'm questioning more the how it's gonna go back up if you like. I mean, are we gonna see a strong traction of upgrade or is it gonna be like a very granular phase to upgrade all these base stations to mid-band? Especially in the context of current macro environment.
Speaker 5: lack of maybe you can argue applications. How should we think about this space basically of upgrades that you foresee? Thank you.
Speaker 2: The first thing I think we need to recognize is that for a fully built out 5G network there is probably going to be need for more sites than it was in a 4G world. So even if we benchmark to the total size of...
Speaker 2: 4G base stations, we're probably going to see more sites on 5G.
Speaker 2: And then what we see will happen is ultimately the, you know, when you talk about 5G from a non-standalone basis, you don't get access to the features that are going to be needed for future digitalization and future use cases.
Speaker 2: So if you need the ultra low latency, higher speed, capacity on demands, etc. You will need to get 5G standalone. And that migration is really only in its early phases.
Speaker 2: So what we see will happen here is that we will start to get new use cases. It can be generative AI, but it can also be XR and those will start to drive new type of traffic that will require the 5G to be built out.
Speaker 2: Then it's all about how you monetize that. And that's why I want to tie it into the discussion about network APIs. We think that's going to be critical.
Speaker 2: So when you are going to call up, so you put on your XR devices and you say, okay now I need super low latency and I can do that through a network API. Then you start to drive a completely new upgrade cycle of the network, you drive new monetization and you drive a new way for us also to create revenues.
Speaker 2: and that's why we invest quite heavily in the network APIs. So you see that they start to come together in order to drive the network upgrades. Then of course, how will that exact upgrade cycle look like? Well, we do believe it's going to be a gradual build out, that it will be...
Speaker 2: nationwide like like it's happening in India right now in every country I think is
Speaker 2: borderline to unlikely to assume and I wouldn't do that but if you look at how you would build out the network of course you're going to build it out where you have customers first and then you gradually expand from there.
Speaker 2: I want to add one more thing which I think is critical and if you look at fixed wireless access. So look at net broadband additions in the most developed fixed wireless access market in the world, it's the US. And actually over the last few quarters almost all growth in broadband connections comes from fixed wireless access.
Speaker 2: And that's why we see that this kind of drive for cost-efficient rollout and cost-efficient deployment of broadband to the citizens of a country, fixed wireless access will play a big role.
Speaker 2: We see numbers in India being very large and one of the operators talking about 100 million connections there. We see those to be built out that's going to drive new revenue streams for the operators as well. So we see this build out to happen and it's going to happen of course over several years.
Speaker 3: Thank you very much. Thank you Francois for that question. So we are now going to the next question in this Q&A session. So the next question is from Alexandre de Waal at Goldman Sachs.
Speaker 3: Thank you very much. Thank you Francois for that question. So we are now going to the next question in this Q&A session. So the next question is from Alexander De Waal at Goldman Sachs. So please Alexander good morning.
Speaker 6: Good morning and many thanks for the question. I just had a clarification on market outlook. You're talking today about scope for gradual market recovery this year and improvements next year. I just want to understand the main factors to drive that kind of recovery.
Speaker 6: I would note, for example, in the US, you talk about 50% decline in the market or at least in revenues, and that's obviously one of the front runners on 5G. One would assume that that would be followed by other markets that are a bit farther behind also declining.
Speaker 2: So just want to understand what would drive that improvement into next year. And then I've got a quick follow up. Hi Alexander. I think actually Burya talked about a lot of those key drivers for exactly what you're asking about, the recovery.
Speaker 2: I mean we see data traffic growth continuing at very very high speeds in North America and in other markets as well. That's a key driver of course because for an operator to be able to deliver the customer experience that they need to, investments in the network will be required to cater for employees.
Speaker 2: And 5G of course also happens to be the most cost effective way of delivering those gigabytes through the networks. But then you have the energy side and CO2 side of it as well driving investments in more modern technology to get your energy bill down. Not to mention the new...
Speaker 2: applications that are coming on stream and we have seen new XRVR devices launched by several players now. Of course, once they become a bigger part of the ecosystem, of course, will drive very high demands on the network. So all these fundamentals are there and that's what we believe.
Speaker 2: will drive the long-term recovery of the market. And you also have to add, that's the long-term drivers and those are the fundamental drivers, right? Short-term we also have the inventory adjustments which is working its way through. In several markets around the world you saw...
Speaker 2: over 21 and 22 our customers to build up inventory to manage a uncertain supply chain. Call it that and that led them to have excessive inventory and those have been working its way through their.
Speaker 2: the systems over this year. So of course those will run its course once they've run its course then we're back to the fundamental drivers of the demand for capex and that's why we are more confident that that will come back. Exact timing.
Speaker 2: is of course in the hands of customers and depends on many considerations they have to do. But ultimately if you're going to deliver customer service, I think you for example, you would like to have connectivity most of the time. But if you run out in a network where you have capacity constraints, you may see bars on your device.
Speaker 2: but in reality you have no data connectivity. That's typically when you have when you're starting to run out of capacity or you simply cannot make a phone call. I think in our day and age we are not going to be happy with that and we would expect a better service as a user and that's ultimately what's going to drive the demand.
Speaker 6: Thanks, Boria. You had a second question as well, Alexander. Yes, I greatly appreciate the clarification. Thank you so much. Just a quick second one. You talk in your release about the fourth quarter being seasonally strong from a margin perspective. And just wanted to understand all of the factors that sort of feed into that. Obviously theervice§
Speaker 6: you for. So just wanted to understand what are the factors that sort of give you comfort there. You just referenced for example the fact that there won't be as much of an adjustment in inventory but I'm wondering if there are other factors that give you confidence. Many thanks. That is one for sure the elementary adjustments where the depletion is coming to an end.
Speaker 2: spending patterns customers have and so on but we always see that improvement in the fourth quarter it's about how projects are concluded and how we deliver to customers to close the year. So we typically see that inventory is one thing and then the normal seasonality of our entire industry and as long as I've been
Speaker 2: working here we've always seen a stronger queue for many many years.
Speaker 3: Okay thanks Alex. Thanks for the question. Then we'll move further in the queue here and I'll see I have the next question from Andreas Wilson at the Danske Bank. Good morning Andreas.
Speaker 2: Good morning everyone. Maybe a slight shift in the questions looking into the enterprise side. If you could explain a little bit more on the reception you have got from this, the strategy that you have in this area from your customers, especially in the US, but also how to leverage this portfolio outside the US.
Speaker 2: any comment on pipeline and if we can expect the growth that you have now to continue also for the coming quarters that would be great thanks.
Speaker 2: Maybe we divide it into the two components, so Enterprise Wireless Solutions continues to have a good growth rate. Of course, a little bit tougher market conditions due to the general economy, I will say. But we see also very strong development with a strong pipe.
Speaker 2: but we're still not getting the full efficiency of our sales force on the enterprise side. But we see a very good collaboration with our CSP customers and they are actually very excited about bringing these type of products to the market it drives revenues for them as well.
Speaker 2: But here we have more work to do. We will, and please remember that it's a different business model with a large part of deferred revenues. So we create a recurring business there. It will impact the P&L initially, but over time it will be a highly profitable part.
Speaker 2: I would also say on dedicated networks we are still early outside of China. There are some use cases imports some basic early in manufacturing but it's still a relatively small market.
Speaker 2: around the world. If you compare it to China, China has by the end of last year they had more than 6,000 dedicated networks deployed in China. We see in call it the Western world Europe and the US maybe we have about a thousand maybe 1,500.
Speaker 2: but it's significantly smaller than it is in China and that I think points to the actual opportunity here being much larger than we're servicing now and of course this will depend on establishing the use cases and the way we approach the market.
Speaker 2: We see that as a good potential for growth going forward, but we're still early on in that. If we look at our platform business in global communication platform, there we're having a good traction, as you can see on the communication APIs that we're in the market with today, and that's the old one.
Speaker 2: business growing 19% in second quarter. Of course that is impacted by the general economic conditions so it has been growing a bit slower than it did 21 and 22 but we still see a fairly good growth rate continuing. What we're very excited about is the network API and we launched the first or launched
Speaker 2: It's a bit of an exaggeration, but we showcased the first network APIs at Mobile World Congress together with three operators in Spain, Volafone, Telefonica and Orange. We are continuing dialogue with a number of leading operators on how to establish this network API market.
Speaker 2: So when we have more development there we will talk about it but what we see is it's an excitement in the industry and here we are shaping the industry landscape by driving the whole adoption of network APIs and what we see here is that that's the way network resources will be consumed in the future.
Speaker 2: They will be called up by applications and paid for through a CPaaS platform. So we're very excited about that, but it's still early in the development. So give us a few quarters here and you will start to see some progress.
Speaker 2: Thanks, maybe a follow-up on what the Chinese enterprises see in these dedicated networks as a benefit that you are not seeing outside of China and how can you help the enterprises seeing that benefit.
Speaker 2: That's a great question Andreas. As a matter of fact what we see in China is that there are developing completely new use cases.
Speaker 2: So, you know, what is unique with cellular connectivity and 5G in particular is that you get reliable, always available and secure connectivity. And that's critical in an enterprise application. So take a manufacturing site, what we see is a full deployment of sensors so you can develop a full digital twin of the factory.
Speaker 2: basically make adjustments in the digital twin and then implement it very quickly and very flexibly. So that's one use case. Another use case that's also gaining traction is the inline inspection. So you actually do image processing of inline inspection going much faster than manual and has much higher precision.
Speaker 2: Then you see more traditional use cases, you know, connect self-guided vehicles. And as a matter of fact, there are some front-running manufacturing sites outside of China where we see deployment of dedicated networks resulting in much higher cycle time.
Speaker 2: much reduced cycle time, speed in the manufacturing goes up as well as higher quality levels. So we're starting to see some early signs outside of China but I will say China is ahead of the new type of applications here.
Speaker 3: Thanks, Andrea. Thank you, Andreas, for those two questions. So we'll move further in the Q&A session. We have the next question from Pertikot Nielsen at ABG. Good morning, Peter.
Speaker 7: Good morning Peter, thank you very much for taking my questions. My first question relates to the net worth growth margins. You've obviously spoken extensively about the mixed impact and with the decline in North America, growth in India, that's plain for us to see. However, has also, as Carl said earlier,
Speaker 7: the initial phase, the Rambo phase in India, the deployment primarily comes with low margins, which would then gradually improve as you move further in that project. So my question is, when will we start to see the underlying margins, gross margins in India improve and contribute, how shall I say, to a better overall gross margin irrespective of the mix?
Speaker 7: changes we are seeing, i.e. when will gross margins in India improve in this rollout phase? And then my second quick question is just, could you tell us what the underlying run rate in IPR revenues is now adjusted for the one-off payment in Q2, please? Thank you very much.
Speaker 2: Carl, should you? Yeah, I can start with the IPR piece and we say this also. The IPR expectation for the third quarter is somewhere between 2.5 and 2.8 billion and that's the number that we give and obviously with the new sign the contract there we are.
Speaker 2: where we aim. Thank you.
Speaker 2: And then the gross margin question, you know, the reality is we're going from about 35-ish percent.
Speaker 2: share of North America to about a 25% share of sales and India goes from I believe 4 to 16% so it's a big mix shift
Speaker 2: and we can still execute with a gross margin that's about 39% in network. So there is a big change here in our sales mix.
Speaker 2: course the details on contracts we're not going to discuss here but we're already seeing a strengthening of the gross margin profile delivering well according to our plans
Speaker 3: Okay, thank you for that question, Peter Koot. And we will move to the next question.
Speaker 3: That question is from Andrew Gardner at the City.
Speaker 3: is from Andrew Gardner at the city. Morning Andrew.
Speaker 6: Good morning Peter, good morning guys, thank you for taking the question. I had another one on your visibility into the recovery that you're calling for later this year and into 2024. Yeah I hear what you're saying in terms of the need for additional deployment, mid-band coverage, networks perhaps deteriorating a bit under the traffic load, all of that makes...
Speaker 6: theoretical sense to me, but I'm just wondering if you're not yet seeing it in terms of firm orders from the customers, you know, by when would you need to in order to see a reasonable recovery in the fourth quarter? I know you don't have the longest lead times and you will have inventory on hand but you know it's I suppose I just worried.
Speaker 6: customers react and place the orders in order to see that full queue recovery. Thank you.
Speaker 2: Historically, when we've seen these type of market situations, it's a very short lead time.
Speaker 2: And that's why it also depends on software, can we upgrade with only software etc. So it depends a lot about the specific network situation for the customer. That's why it's hard to give you a specific answer.
Speaker 2: But at least we know from the customer discussions we're having now that a lot of the customers are starting to see deteriorating network performance that actually leads to churn. And that's why we're also...
Speaker 2: confident that it will come. I can't predict exactly and as a matter of fact that's why we never discuss backlog in our industry because it is a relatively short delivery cycle on those type of contracts where you buy capacity.
Speaker 3: Thanks, did you have a follow-up Andrew? No, that's fine, thank you. Thank you, thank you Andrew for that question.
Speaker 3: We will then move to the next question and I would have Donal Huber at Hans Panken. Good morning Donal.
Speaker 6: Good morning, good morning, Barry and Karl. Thank you for taking my questions. Two questions if I may, starting coming back to the market recovery and the North America again. Would it be fair to assume that this recovery that you anticipate will come a bit earlier for some of your peers including your neighbour is seeing profit warning today?
Speaker 2: Is this because you have more wind into the urban areas versus the rural areas that might come a bit later?
Speaker 2: Is this because of you that you have more wind into the urban areas versus the rural areas that might come a bit later? Thanks Yeah, you know that
Speaker 2: I think you're better off asking our customers about that. The way, I mean, we, I think we started to talk about this situation in North America already in the end of last year. So it's developing a bit like we have predicted and actually assumed and that's why we said also early on that we need to take the cost items and the actions on the cost side. So we have tried to
Speaker 2: not predict this is a bit to exaggerate, but at least plan for this type of market situation we're seeing in North America. Then I would also say, of course, they have built out networks in urban areas first, but I would also say that's where traffic growth is the fastest as well.
Speaker 2: So, how that is going to ultimately pan out, I think that's a bit difficult to predict. But what we see, and that's what gives me comfort, is that...
Speaker 2: There is a need for network capacity. There is also a need to deal with the energy cost challenges that comes out. Simply you need more modern equipment to lower your energy bills for the operator. You will need more newer equipment to deal with the CO2 challenges and the CO2 commitments.
Speaker 2: Does the future always look like the past? No, it doesn't. But at least when you put all of those factors together, it's a...
Speaker 2: It's a reasonable assumption that we said already in the end of last year that we would see a recovery during the second half and that's what we think is still a reasonable assessment.
Speaker 2: then does it look the same for our competitor? I mean I don't know their business mix, I don't know their situation so I let them speak for that themselves but from my point of view we saw this coming and plan for it.
Speaker 6: Fair enough, I agree there. And a question also if I may coming back to the enterprise and you talked about the open gateway initiative with your quality on demand that you showcased in Barcelona. Is it, have you come any further in terms of monetization and the revenue models and those things and the progress there if you could be a little bit more specific.
Speaker 2: We continue the very deep engagement with a number of front runner customers around the world. So we work very intensively on that. One of the things that needs to happen is we need to have an abstraction layer in the network.
Speaker 2: that basically allows a CPaaS to cool up functionalities from the network. And that's, you know, it's not a surprise, but that's where we have a lot of work to be done. And we continue that work and that's why, you know, when we'll get the first revenues, I think we have said that we should have a network API.
Speaker 2: to happen here before we are at the situation of creating a launch.
Speaker 2: We'll hopefully come back and talk much more in detail about this towards the end of the year.
Speaker 3: Thank you. Thank you, Daniel. So we are actually now moving into the last question of this Q&A session. And that question is from Sandeep Deshpande at the GPMorgan. Morning Sandeep. Good morning.
Speaker 8: Good morning. Can you hear me? We can hear you. My question is, Gaurav you talked about the build-ups into an improvement in sales and one of the points you made on the build-up of improvement is that there will need to be further densification of the base stations.
Speaker 8: Given that we are seeing that the US telcos are cutting spending at the moment, have you had conversations with them that gives you any confidence that they're going to actually densify their 5G cells going forward? And then I have one more quick follow up on the software business. I'm not going to go into the details.
Speaker 2: coming back and it's you know in reality it's back to consumer satisfaction you know the consumer the user and I'm we often think about it as a device for a smartphone but the reality is in the future will be many new type of applications enterprise applications
Speaker 2: if it is AI use cases they will all require connectivity and reliable always available connectivity
Speaker 2: So we see quite a lot of use cases here that will drive network traffic. So I think it is here, we're in the phase where of course if you're a customer you're facing uncertainty right now, you're going to adjust accordingly.
Speaker 2: But I'm also convinced that at the end of the day the end user will need a certain service and that's what's going to create the market. Is it uncomfortable now? Yes, it is uncertain, right? And I think it's fair to say that. But the reality is connectivity is a need. So if you go today to a sporting event...
Speaker 2: As far as I know, in many parts of the world I cannot upload the picture, because it's simply capacity constraints. So we need to put more capacity in stadiums, more capacity indoors, in shopping malls, in office buildings, etc. Those are massive use cases that will be deployed over the coming several years.
Speaker 8: And they will be needed in order to digitalize society, digitalize enterprises and further digitalize the consumer. You had a quick question Sandeep as well. Yeah, just quick follow up on your software and services business. Where are we now in terms of the restructuring? I mean you've taken some charges in the first half of the year. You've seen some improvements in terms of the earnings in that business.
Speaker 8: Have all the actions been taken and the results waiting to be seen or are there certain more results, I mean, the certain more actions need to be taken in the second half to reach your goals there.
Speaker 2: Yeah, Sandeep, I can say of course actions are ongoing. We have exited from some sub-scale businesses. We talked about that before, took some charges for that earlier. We are focusing on automating service delivery. We are taking out costs.
Speaker 2: as part of the overall cost reduction effort. And we have commercial discipline to make sure that the new contracts are well scoped and well priced. And all of that is happening, of course, continuously. But we see clearly that break even as we've had a target.
Speaker 2: software and services are undetecting.
Speaker 3: Thank you Sandeep and thank you Carl and thank you Boria.
Speaker 3: So we're coming to the end to this Q&A session. So I would like to Thank you all for good questions. And for those who are going on summer vacation I wish you all a nice vacation and we'll see each other again during autumn. So thank you and goodbye. Thank you. Thank you. Thanks