ABB Ltd
Q2 2015 Earnings Call Transcript

Published: 23 Jul 2015

[Operator:]

Ladies and gentlemen, good morning or good afternoon. Welcome to the ABB Second Quarter 2015 Results Conference Call. I am Philina, the Chorus Call Operator. I would like to remind you that all participants will be in listen-only mode and the conference is being recorded. After the presentation there will be a Q&A session. [Operator Instructions] At this time, it’s my pleasure to hand over to Ms. Alanna Abrahamson, Head of Investor Relations. Please go ahead, madam.

[Alanna Abrahamson:]

Thank you. Good afternoon, ladies and gentlemen. And thank you for joining us today for our second quarter 2015 results call. I am joined by Ulrich Spiesshofer, our CEO; and Eric Elzvik, our CFO. As usual, you can find the presentation on our website. This call is being recorded and will be available within the next hour. Before we get started, please refer to the important notices regarding Safe Harbor and on our use of non-GAAP measures on page two of the ABB presentation. This conference call may include forward-looking statements. These statements are based on the company’s current expectations and current assumptions and are therefore subject to certain risks and uncertainty. With that, I would like to now hand it over to Uli.

[Ulrich Spiesshofer:]

… before we get into detail, let me summarize the second quarter. We continued our steady focus and execution in the challenging market environment by driving our Next Level strategy, we generated higher revenue and operational earnings per share against significant market headwind. Let me highlight just a few points on chart three. We continued to deliver among our three focus areas, profitable growth through our framework of penetration, innovation and expansion, continued to pay-off and helped to mitigate the tough market environment. Order declined 4%, which reflect the challenging market we are facing and weaker demand in oil and gas. China and the U.S. compared to a strong second quarter last year. Orders for the first half year are up 6%, driven mainly by large orders in the power businesses and supported by moderate growth in automation. We grew revenues by 3% in the second quarter on a like-for-like basis, the same as in the first quarter. In line with our ambition to improve profitability, we expanded our operational EBITDA margin by 100 basis points. This increases in three divisions. We continued to cut cost in line with our commitment to generate savings equivalent to 3% to 5% of cost of sales. We are also started to see results in lower G&A expenses down 7% year-to-date from our effort to simplify the organization. Most importantly, we delivered 9% growth in operational earnings per share on a constant currency basis. We see this 9% growth in tough time as clear evidence that our Next Level strategy is working. Let’s turn now to chart four for the key figures for Q2 and the first half year -- first half of the year. The year-to-date growth in orders, revenues and operational EBITDA margin remained at solid level. Our order backlog is almost up 10% on a like-for-like basis versus the end of Q2 last year. That will continue to support revenues well into 2016 and 2017. Operational earnings per share on a constant currency basis, excluding the Forex translation impacts and other non-operational item grew 9%. On a year-to-date basis, the improvement was 8%. Cash from operations is down, mainly the result of positive revenue momentum towards the end of the quarter, resulting in higher current receivables and lower associated cash from operations. We also had higher tax payment in the quarter compared to one year ago. Both of these are timing issues. Let me now give a perspective on the regional order performance on chart five. Orders in Europe they are up 7% and higher in both power and automation. This was supported by large power transmission orders in France and the U.K. We integrate renewables into the grids, as well as orders for rail solutions in Germany, Switzerland and Italy. Orders in the Americas were lower largely because of the tough comparison with the strong second quarter last year than we won large orders in Canada, U.S. and South America. In the U.S., order growth in Low Voltage Products and Power Products could not compensate the softer demand in oil and gas, and the difficult year-on-year comparison in the auto division. Asia was a mix performance. China was weaker as we cautions during the quarter, while other important markets improved such as India and the Middle East. Base orders decreased slightly in the quarter, down 2% from second quarter 2014. Base order varies significantly by geographies as you can see on the table. Our broad geographic scope help mitigate some of the weaker demand in our larger markets. Let me now turn over the presentation to Eric to take you through the financials in more detail.

[Eric Elzvik:]

Thank you, Uli. Let’s move to our operational EBITDA bridge on chart six. This quarter we achieved the $6 million positive in the net savings as we continue to compensate price pressure with cost savings. We also stepped up our actions to improve white collar productivity, which started to pay-off in the second quarter with the G&A expense rate down by 7% for the first half of the year. This is not part of the net savings calculation, but it’s included in the other category in chart. Net volume was positive, reflecting the leverage effects from higher revenues, mainly in the product division. Next project execution supported margins in the quarter, mainly in our systems, but also to some extent in Process Automation. The further positive was the mix. This was mainly due to the higher side of revenues from LP and DM divisions, which have the highest margin in all the businesses in the portfolio. But also within Process Automation there was a positive mix effect contributing. The other category consists mainly of the number of smaller one-off items. As in previous quarters, we had a large negative Forex translation effect. More than $100 million in the quarter and we expect this trend and level to continued in Q3. Finally divestitures through the portfolio pruning reduced the operational EBITDA by about $9 million. This was divestitures occurred in during last year. This leads to an overall operational EBITDA over $1.58 billion and an 11.7% operational EBITDA margin up 100 basis points. Now let’s turn to chart seven, which shows an overview of the divisional performance in the quarter. The highlight is the solid performance in LP, including decent order growth and solid margin despite the soft margins -- markets. Revenues are steady to high in all divisions on the like-for-like basis. The decline in the operational EBITDA margin in Discrete Automation and Motion is mainly the result of the lower sales or high margin stand-up products into the oil and gas sector, and the effect here was biggest in the U.S. and in China in the quarter. We have taken clear actions to adapt for the situation such as capacity adjustments, but also channel expansion and product innovations to further strengthen our position for long-term growth. Process Automation reported 100 basis points margin improvement and this is mainly the result of good order execution on a number of higher margin projects from the order backlog. As we move into the second half, Process Automation faced a significant headwind mainly from the oil and gas markets. So we continue to drive actions to minimize any impact from this. Power Products saw a slight margin decline. This was mainly related to production ramp-up costs and continued to deliver solid results in the tough environment. Power Systems continue to turn around recovering from an operational EBITDA loss of almost $60 million in Q2 last year to a positive $42 million this year, a 580 basis points margin improvement. The biggest most in cash from operations are in DM which is down versus a very strong Q2 last year and in PA we are receiving impact of project milestone revenue bookings late in the quarters which resulted in higher current receivables. Now let’s turn to chart eight for a look at the capital side. Cash from operations is down in the quarter mainly related to timing differences. One was the timing of the product deliveries and achievement of certain project milestones late in the quarter as I just mentioned in PA. This generated higher sales and trade receivables on local currency basis. Overdues, which was just remained steady during the quarter. We would like to collect this cash in the coming quarters. This together with higher tax payments and other foreign translation effect impacted the cash from operations. In the first half of the year, excluding the Forex translation impact and the higher tax, the cash flows were near the same high level as for the first half year for 2014. We expect cash to normalize over the next two quarters in line with our solid track record in cash generation. Looking at our capital returns, in May we paid out approximately $1.4 billion in the first time our annual dividend and later this month we will pay the remaining CHF 17 a share which would equal about approximately $400 million. We are proceeding with the buyback and purchase 23 million shares this quarter at the value of around $500 million. Year-to-date, we have now purchased 44 million at the value of approximately $1 billion this year. Since the program was announced last September, we have purchased a total approximately 77 million shares, with the total buyback value of about $1.7 billion. This means we are close to 50% of the total $4 billion program we announced in September last year and which around to September of 2016. So in total for 2015 so far, we are returning approximately $3 billion in cash for shareholders, since the beginning of the year, with the share buyback program and the dividend, while at the same time maintaining a stable net debt of approximately $2.8 billion. Let me now turn it back to Uli.

[Ulrich Spiesshofer:]

Thank you, Eric. Let’s turn to chart and an update on how we are implementing our Next Level strategy through our three focus areas of profitable growth, relentless execution and business-led collaboration. In the second quarter, we continue to make progress in each of these areas. Chart 10 shows concrete examples, how we drive profitable organic growth through high framework of penetration, innovation and expansion. Successes in the second quarter include better penetration of OEM channels, such as [indiscernible] mechanical engineering sector. We have increased orders in DM division from this sector by more than 10% so far this year and have more than double orders in DM and LP with several now jointly serves key accounts. We achieved the number of innovations successes, including innovation of the year for the new Azipod D gearless ship propulsion system that reduces marine fuel consumptions by 10% to 15% compared to their systems. We are expanding continuously into high growth markets, such as food and beverage, now combined range of Power and Automation Solutions drove a solid double-digit order growth so far this year. These organic growth actions are part of the overall shift in the center of gravity that we described to you last year when we introduced the Next Level strategy. If you turn to chart 11 let me quickly summarize what we mean by this. There are three elements in changing the center of gravity of ABB. One is to enhance the organic growth momentum, which is at bottom right of the chart. We do this by implementing our high framework and expanding in the targeted range into high closed segments. On the bottom left, we show how we are de-risking the business by adjusting the business model as we had to reinforce some of the end Power Systems and in terms of the economic cycle that we aim for a better balance to meet early and late cycle businesses. At the top, we strengthen our competitiveness by having more solutions offering, pushing hard on our service business, which is already [indiscernible] of our total portfolio and driving stronger are software-led differentiation such as further building our leading positions in assets management software. Moving to chart 12, in the second quarter, we made further progress in each of these three areas reflecting the center of gravity of ABB. On organic growth for example, we opened a new robotics factory in the U.S. The reindustrialization of the U.S. is for real and being a local manufacturer of robots with a strong global network behind us, allows us to have better service and shorter lead times in this important high-growth market. We have improved our risk portfolio in Power Systems through the divestiture of the U.S. cable factory. Also for example, our continued investments in Low Voltage Products are contributing to a better risk balance in ABB. The second quarter growth in this business is very encouraging. On the competitiveness side, we continued to introduced new software and service solutions across all of our businesses, for example for remote, condition monitoring and servicing of both power and automation equipment installed at our customers’ site. We are moving strongly to support our customers in the road of Industry 4.0, that people services endings are fully interconnected. This is an important competitive differentiator and we intend to continue to be a leader in this field. Let’s turn to chart 13 for a quick update on the progress of our step change program in Power Systems. Last year at this time, we reported an operational EBITA loss in Power Systems closed to $60 million. We committed to bring the business back to sustainable profitability. In the second quarter results, it shows that we are delivering the 580 basis points increase in operational EBITA margin. In off-shore wind, we continued to pickup key milestones in our remaining project portfolio. Our exit from solar EPC is now complete and we are rolling out our recently announced partnerships in HVDC transmission and Microgrid. Growing the base business is another level for profitable growth and in the second quarter, we grow our base service business in PS by more than 20%. Turning to chart 14, we continued to shift our performance management from the historical focus on EBITDA to true operational performance such as health and safety, customer service, cost and cash. These step outs in operational performance management is key to driving margin accretion even in tough times and establishing a strong performance capture. We continued to take out costs, equivalent to 3% to 5% of cost of sales and reduced structural costs to G&A by 7% year-to-date. The 3% revenue growth and the workforce reduction of some 1,500 employees since the beginning of the year, we also improved revenue productivities at a 4% run rate year-to-date. Turning now to chart 15, our new compensation model is one of the most important ways to drive a true performance culture. Many of you have asked how this works in practice. Historically, the system we used rewarded everyone equally based on the total group performance, taking no account of how they performed as individuals. In new system, the clear individual and company wide target can drive culture change by rewarding manger for specific metrics that they drive individually as well as for the overall true performance. And there is a certain example based on our 2014 performance, business unit managers who made their target under the Power Systems would have received the same incentive as the one who outperformed. There is 86% of the total available amount. Under the new model, which is a combination of institutional and line of sight target, managers are rewarded for specific performance that they drive individually. Here, low performers would see their incentive cut to 48%, while the out performers would receive 113% of their incentive opportunities. We are convinced that this shift will drive the behavior and culture change needed to successfully implement our next total strategy and achieve our value of creation goals. Let’s turn to chart 16. Last quarter, we showed you how we combine our power and automation offering across divisions to deliver greater customer value. This chart shows you how we drive and support collaboration and generate profitable growth by simplifying the organization, providing processes and tools and optimizing the way we go into market. One example is the newly shaped role of our Country Managing Directors who’s clear and primary focus is to drive customer collaborations and to orchestrate the local ABB team to best meet local customer needs. This includes supporting our sales team through simplified back office operations like the new regional shared service centers we are opening in Estonia and India. And an enabler of simpler, faster collaboration in sales is the rollout of salesforce.com, common tools cut administrative time and increase time of our sales peoples with our customers. Another example is working together across businesses to make better use of both existing and new sales channels. Using a common channel strategy, we can for example at peers even drives through our typical Low Voltage Products offering into electrical equipment institutional networks. That gives them a broader offering for a customer and brings us a higher share of wallet. Turning to chart 17 and our summary. The order engaged markets like China and the U.S. Despite these headwinds, we grew revenues and delivered 100 basis points expansion in operational EBITA margin. Operational earnings per share increased 9% on a constant currency basis, giving us confidence that the next level strategy is driving results even in tough markets. On the outlook, from a market perspective, the short-term picture remains mixed and there is still significant macro and geopolitical uncertainties. We continued to expect modestly paced growth in the U.S. We also see China continuing to grow but at a lower and slower pace than in 2014. The headwinds from lower oil prices and foreign translations are expected to continue over the rest of 2015. However, we are confident that we can manage the uncertainties through the steady implementation of our next level strategies. With that, let me summarize. We expect continued hard-weather sailings but the execution of our next level strategy will enable us to stay on course. We remain committed to driving profitable growth in sustainable value creation in line with our targets. Before we move to the Q&A, let me remind you that we are holding our Annual Capital Markets Day on September 9th in London. You must use this opportunity to reflect on the first year since we announced the next level strategies and share with you how we will drive accelerated sustainable value creation in the years ahead. With that, I would like to conclude my remarks and thank you all for your attention.

[Alanna Abrahamson:]

Okay. Let’s open the lines now for questions.

[Operator:]

[Operator Instructions] The first question comes from Mr. Ben Uglow from Morgan Stanley. Please go ahead.

[Ben Uglow:]

Great. Good afternoon, Ulrich, Eric, Alanna, and I had a couple. The first question, Ulrich, is really a general one. We’ve seen all kinds of different reporting by companies in the last couple of weeks. And frankly, it’s very difficult to actually hear out what’s going on in terms of the industrial demand trend. When you look at ABB, could you just give us a general sense regionally of what is actually happening in the different geographies, maybe one or two end markets? I mean, if I were to characterize the quarter, it looks to me like your base orders have drifted down again, and that’s actually been happening for a couple of quarters. China, I would say looks significantly worst quarter-on-quarter. U.S. looks a bit worst. And maybe Europe is actually picking up and is the outlier. How do you see that? Is that a fair analysis of what’s going on in your business? Second question very briefly is for Eric. I don’t really completely understand the mix effects going on in the margin bridge, which I know you love. In the first quarter, mix was $78 million negative. In the second quarter, it’s $35 million positive. But you mentioned, the highest margin business is growing. It actually looks to me like the single biggest grower is actually Power Systems, the lower margin business. So can you just talk us through that?

[Ulrich Spiesshofer:]

Okay. First of all, good afternoon, Ben, and thanks for your question. And I think you look at that it’s difficult to see what’s going on and develop, difficult to predict is absolutely accurate that the reality that we face at the moment. But let me try to give you a perspective going around the world. If you look at Europe, the three largest economies, Germany, Italy, and France reasonably carefully upgraded by a small notch, but visibly their GDP growth forecast which gives us hope that Europe might be coming back at the decent pace. Spain is coming back in a solid way. And we see Northern Europe developing in line with what we expected in the environment that we’re in at the moment, meaning a moderate growth being there. If we move from Europe a little bit east and look at Russia. And if you grind that technically a very questionable situation there and it’s bottoming out, but this is a very low growth environment. In fact, it’s sort of contraction to be expected. Moving from Europe to the Americas, the North America, look it’s really a mix picture. If you look at the oil and gas side, it’s pretty subdued. If you look at the related process industry, you will see some of the oil and gas hedges running out and people hedge relatively higher oil prices, and then it will flow into the material costs and factor cost for some of the aluminum side and we expect some positive [indiscernible] coming out of that. On the Discrete side, American automotive has found its way back and is really performing pretty well. And the good news is in automotive the complexity of every car is going up in terms of automation, more materials, more joining technologies which is good. And that was one of the reasons why we decided to put a plant at the first one of the global players into North American market and get going. Brazil is driven by a high level of political uncertainties and by some very significant micro headwinds. And we expect that to continue while we had lastly review with Colombia, Peru, Chile, there is a solid growth momentum in that markets that we can benefit from. If you move then over to South Asia, in South Asia the need for infrastructure is a good one. Another sector that is strong there is food and beverage, because the market of food and beverage, of packaged food and beverage basically is growing. People are moving from buying raw rice to packaged food, which needs automation. And then if you go to Australia, it’s pretty low. Since quite a while we expect that to stay there for quite a bit. India has increased its outlook and we see good momentum. Solar in India is doing very well. We just started 300 megawatt order, which is a fantastic achievement of the combined ex Power-One/ABB solar team. I am really proud of what they are doing and we’re definitely the leader in India’s fast growing solar market and also infrastructure investments will come up. And we will see the impact of reduced fossil fuel subsidies in India and that money will go into infrastructure. And then comes China, and in China short-term we have experienced and reflected very clearly a very soft market in the second quarter. I would expect that during summer this bottoms out and towards the end of the second half of the year, China should come back. There is at the moment a lot of uncertainty on the financing side. The realization that a lot of industries on the process side has overcapacity has now finally been reflected into buying patterns. And we have also some competitors that are actively leading prices down in China, which is a journey that ABB does not join. We continue to differentiate ourselves with innovation and high customer service and we are strongly committed. So as you can see, Ben, it’s really a mixed road out there. We have some positive elements in some end markets. Data center is still going pretty strong. Rail and rail infrastructure, an area that we have our proven one step back strategy that we don’t do, it’s inbox of a railcar. We finished this our power and solutions which is going very well. Further in the [3C industry] [ph] is not a one that we see having a huge amount of need on automation and power need. So altogether, it’s a mixed bag out there. As our heat met and high approach, we have a much more granular grant of the market. Our teams are closer with the customers. We free up their administration time and give them more to customer. So altogether, in a pretty mixed road and carefully confident that we will keep steady execution in the quarters ahead. With that, I hand over to Eric for the second question.

[Eric Elzvik:]

Yes. Ben, on the mix, we have to remember that this is a quarter-to-quarter comparisons, so we are comparing last year’s Q2 to Q2 to this year and also the same one with Q1. And it’s simply so that this is the mix between the divisions, from divisions of higher margins, somewhat lower margins, some of the revenue growth was higher in the high margin businesses. And it’s also an element of the mix really in the division that is in on the lower product group margins in the divisions. So this is what a result is when it comes out. When it was negative in Q1, it is not positive this quarter.

[Ben Uglow:]

Okay. That’s great. Thank you very much.

[Alanna Abrahamson:]

Next question.

[Operator:]

The next question is from Mr. Andreas Willi from JPMorgan. Please go ahead.

[Andreas Willi:]

Yes, good afternoon, everybody. I have also two questions please. The first one is on Process Automation, if you could give us a little bit more granularity, what’s happening within that business? You held up pretty well this quarter also relative to some other companies that has reported. Maybe you could just give us some indication how your maintenance and OpEx driven businesses doing in Q2 and what do you expect later this year and the CapEx business and the backlog when that starts to get weaker and also what the pricing is doing in the order intake there relative to what your invoicing? And the second question is on your disposal you have made the high-voltage cable factory in the U.S. to Southwire in June. You build this factory about three years ago. What was the reason to exit that market again in terms of the strategy for the U.S. cable business? And also maybe what was the revenues you will loose so we can model that and whether the charge we had in Power Systems is related to the write-down on that factory? Thank you.

[Ulrich Spiesshofer:]

Okay. Good afternoon, Andreas, then for your two questions. Let me start with Process Automation. Look, in Process Automation, if you look at end-market that we are serving, oil and gas is definitely the one there that massive contraction of discretionary spending in oil and gas was I think that we didn’t expect at a magnitude that it came. But thank god, we have a strong backlog in Process Automation. We have very HRD of a tracing the workforce and we had some great execution opportunities in the quarter. We were completing some milestones on some really large project and the team did a great job. I have to say, they really did a great job in executing this large project and pushing the revenue out and that you naturally found in the margin in this quarter. You should not expect the same in the quarters to come. Our PA is definitely being impacted by the contraction in oil and gas and I expect that to carry on. But if you take the other industries, if you take especially, Pulp and Paper is since acquired a couple of years on a low level, we have a good service business in there. We do some products and upgrades in there. And they’re coming along on a low level but I think we got it all on the control that it’s working quite okay. If you take then the Metal sector, that’s one that we are hopeful that the affect that I described before, that the affect of cost hedges that some of the customers have on the oil that they use to produce aluminum will go down obviously as a peer and then they can buy at low effective cost which will stimulate demand. If you take mining, mining is expected to basically drop to the level of CapEx in about -- of about 2009, ‘10 to top 80 customers or top 80 players in that segment spend -- have in 2009 about $80 billion, $90 billion in CapEx and that’s probably where it will be coming down from about $150 billion last year. So we had a peak. But the good news is that if you look at the underline quality there, there is a lot of Power and Automation combined offering that we can do. We use the experience that we have in mining, driving uptime yields and speed by combining Power and Automation really in a successful way. There what we have done in both Ledinge and Sweden has attracted a lot of attention in using that to drive growth in the Process Automation division. So, basically if you look at it, the drop in the oil and gas discretionary spending Andreas is for real and its very significant but we are able to balance that all. There is other activities and we have a strong activity with our customers in the Auto sector. The service fees in Process Automation exceeded the first half of the year and now, if you look at oil and gas, the amount of oil that being pumped has not come down, so very soon responsible operators will start spending again on maintenance on an uptime, otherwise they compromise uptime reliability, which would be very, very dangerous in the time right now. Look under disposal of the cable factory in the U.S. when you run a business, you need to look forward and see what is the right as instructed and you need to have to run your business successful. This factory was not part of that assessment and therefore we decided to sell it. It’s a tough cause. As you can imagine just having build these factory a couple of years ago, but things don’t get better if you track them on. So my stand is rather then we realize, we have an opportunity to improve then we cut and we move on in return to page. ABB has a very successful cable business globally and we are expanding that cable business as we speak through new innovation and great products. We have a partnership form with Southwire that in case we need a capacity of this factory, we can still take it. I think it was a very responsible move and helped us to take out fixed cost. It take us -- helps us to address a more volatile market in a more flexible resilient business model. And as you have seen in our center of gravity description, that’s exactly what we are doing in terms of derisking the portfolio starting it well inline. And yes, Power Systems got hit a little bit by the divestiture because as you can imagine we’ve also frame new plan and we got hit there in the second quarter, but it was the right thing to do, which turned the page and we moved on.

[Andreas Willi:]

Thank you very much.

[Ulrich Spiesshofer:]

You’re welcome.

[Alanna Abrahamson:]

Okay. Next question?

[Operator:]

The next question is from Mr. James Stettler from Barclays. Please go ahead.

[James Stettler:]

Yes. Thank you. Good afternoon all. A question on a Discrete Automation and Motion where you had 120 basis point margin decline? What will it take to bring that back to where you were before? How long will it take? What’s need to happen there? And should we be expecting any further cost? Just looking at your portfolio rationalization what we’ve seen in the last few quarters, should we be looking forward to more divestments or is that sort of been completed?

[Ulrich Spiesshofer:]

Okay. So good afternoon, James. On DM, if you take the pattern of DM in the second quarter, it was a really interesting journey because if you look at DM, we sell a lot of drives in motors, not only as new but also as replacement in the upstream part of oil and gas. And given the customers are very, very careful there at the moment spending any money on anything, we had a very sharp drop in this hi-tech really great product and they are good margin businesses. So we had a massive drop on that one. At the same time, DM has a very strong franchise in China as you know. We have really built that business in a very strong way. And whilst robotics going very well in China, the activation part, the motor and drives part is favorably departed went through the channel so our contraction. Now, on the contraction, as I said before there is an end market over capacity in the process industries and that will stay. The second piece is the distributors felt very strongly and I made a lot of them in the second quarter. I mean, I was a couple of times in China. They basically felt uncertain about the financing conditions and we are careful with stock levels. And thirdly, we have a couple of competitors actively leading prices down in China and ABB will not follow that path, so we will keep our great product. We will keep the innovation pace going. And we will ensure that we get paid for our offering. So in terms of what needs to happen in DM, on the one hand as every responsible entrepreneur, they’re taking out cost in the appropriate segment to make sure we’re weathering the storm. In the U.S. we have embattled our very good flexible work model that helps us to take down capacity and take down cost with outlaying of people, which I think is something important. And then if you look at China piece, I’m optimistic long term and medium term, the China will come back. Short term, we need to manage through the -- throughout this eve in summer and get through that. Your second question was around portfolio optimization. You have seen, basically seen that I have joined ABB close to 10 years ago. Portfolio optimization is a part of the daily job. In the first couple of years, we sold a lot then when I ran DM, on a one hand, we pruned the portfolio, on other hand we made some significant exhibition. When I started as CEO, we did a sizable portfolio pruning rounds, taking out a $1 billion. Now the cable factory reach us over decision to take something else out, which was not part of our future plan for driving ABB’s in a way that they wanted. You should not expect any major disposals basically we have done on our homeowners and debt fund but continue fine tuning of the portfolio and continuous pruning is a part. And we often need to see how the market in that will drive to where we’re at.

[James Stettler:]

Great. Thank you.

[Ulrich Spiesshofer:]

You’re welcome James.

[Alanna Abrahamson:]

Next question.

[Operator:]

The next question is from Mr. Mark Troman from Bank of America. Please go ahead.

[Mark Troman:]

Yes. Thank you. Good afternoon, Uli, Eric and Alanna. First, I’m trying to understand the demand commentary of the outlook, I think related to, I think, first question continued growth in the U.S., slower growth in China. And obviously, that clearly didn’t happen in Q2. And then you talked, I think a little bit about stocking, is that outlook basically more short-cycle comment that you’ve seen destocking in the U.S. and China and you expect that to improve in the second half or is it related more to the order pipeline you’ve seen in some of the larger projects. So I guess, is the outlook more short-cycle business comments or sort of longer cycle order comments, question number one? Second question, clearly look growth is obviously difficult for a lot of industrials. How do you see the acquisition environment? And you’ve obviously got a very strong balance sheet. Are acquisitions going to become more important feature of ABB’s growth plans? That’s question number two. And finally, number three, I think obviously over the last quarter we’ve seen Serbian take a 5% stake. And they’ve obviously been active on several boards, on company’s they’ve been shareholder of. What can you tell us about discussions with them? Thank you.

[Ulrich Spiesshofer:]

Okay. Look Mark, on your first question, at the moment, calling the world right and calling the market right, it’s really an interesting challenge. Let me try to give you a little bit more granularity on the area that you’re interested in. If you think our order momentum in the U.S., we had a very tough comparable basis to the previous year. If you look at the second quarter 2014, we had two effects, the one was we’ve got some very large power infrastructure order in North America, very strong one and tried a couple of them in the first half of the year and in the second quarter of 2014. Secondly, they are heading the base businesses and the base product is -- we had for, I would call shale gas bonanza. There was really an enormous amend on in the second quarter of last year. This is not happening at the moment in the U.S. The shale gas bonanza definitely on a whole and we don’t expect there to come back very short term. And if you look at the power infrastructure spending, there is some really good tendering going on and we are involving by some significant tender, calling the timing on them is always difficult. So when you see market numbers from us, they have a certain assumptions on what share of large orders will come whether they really realize in the markets, really developing that we are not in a certain quarter, it’s very difficult call to make. But I think on the underlying base business, there is a growth to be expected in the U.S. on the low level. And then it’s depending on how the high peaks that we have had on the base business in shale gas and a large infrastructure project compensate them that drove elements. And that’s basically what has happened in ABB in the second quarter of this year. This is the reason why the Americas are down in the second quarter. If you look at it, they are down in the U.S. 10. They are down in Canada 50 because we had very large transmission infrastructure project and some shale gas related effects in the second quarter of last year. So that’s the point that you wanted to know here. The second point was around acquisition and the acquisition environment. Now looking at set when we went out with the next level, we see three drivers of growth. The one is a very strong focus on organic growth. And you have seen us reach the better granularity and understanding on the organic growth opportunities, which is blowing a lot of investment in that field. I think this is the lowest risk growth opportunity. And knowing that you put sales people and you get relatively quickly additional revenue is probably one of the best days to drive the business growth in a relatively risk mitigated rate. The second one is our partnership. And I’m quite pleased with the way they are going. They have formed some of them. And this is a pretty asset light way of accelerating certain fields. You don’t create any fixed costs. You don’t have any CapEx. You just do partnerships in driving growth opportunity with a stronger combined capability base. And then on the acquisition side, you read us right. We’ve got a balance sheet despite deploying $3 billion of capital returns to shareholders in the first half of this year or at least committing to it last part of dividend now we paid in the next couple of weeks. We are ready from a balance sheet perspective to consider options on the acquisition side. Now what needs to become together is three things. The one is the financials in ABB need to be in order and I think we have done some decent holder that we consider some acquisitions on a medium size. The second piece is we need to have acquisition capacity. And if you look at where we were last year with the turnaround of Power Systems, the situation that we had in integration of Bel and Power-One. We have made good progress and we are more ready than before. So from integration capacity, we are also in a much better shape. And thirdly, we need to have attractive targets available at a decent value creation story. And at the moment, the market is still a bit overheated. I think there is in certain segments quite a bit of ambition to look at current share prices. So we want to be cautious because we don’t want to only turn the money around you. We want to create real value. We will continue to do bolt-on acquisitions. You have seen us doing contract in the first quarter. We will do more of that size. And when the time is right, ABB will also move on some medium size targets. And the last one is situation around Serbian. Now look, I expected it. We welcome Serbian’s investment to ABB. They have deployed about $2.5 billion to ABB which is a very serious sizable investment. And as with every other shareholder, we are looking forward to have a constructive positive forward-looking dialog. It is absolutely our commitment to listen to any shareholder that has put his capital at work in ABB. We got a very clear strategy on what we’re going to do in the next couple of years. The momentum in the second quarter has now shown that we are able to weather the market with steady execution. But any comment and input how to improve that further is absolutely welcome and we look forward to a constructive partnership over the years to come. And that’s all I can say because we will not disclose any details on individual shareholder discussion.

[Alanna Abrahamson:]

Thank you, Mark.

[Mark Troman:]

Thank you very much.

[Alanna Abrahamson:]

I asked that all future people keep it down to two questions so that we can have as many people asking questions as possible. So let’s go to the next set of questions, please.

[Operator:]

The next question is from Ms. Daniela Costa from Goldman Sachs. Please go ahead.

[Daniela Costa:]

Hi. Good afternoon. [Technical Difficulty]

[Operator:]

Sorry, this is the Operator. Ms. Costa?

[Daniela Costa:]

Hello.

[Operator:]

Your line is a bit distorted. Would you mind trying to disconnect and call back?

[Daniela Costa:]

Or I can use another one. [Technical Difficulty]

[Operator:]

We cannot hear you Madam. I’m sorry. Should we take the next question as soon as Ms. Costa comes…

[Alanna Abrahamson:]

Yes. As soon as Daniela calls back in, please put her through then.

[Ulrich Spiesshofer:]

Yes. We can’t hear her.

[Operator:]

Okay. So the next question is going to be from Mr. James Moore from Redburn. Please go ahead.

[James Moore:]

Yes. Good afternoon everyone. Thanks for taking that questions. I have two then, the first question is on pricing. Could you perhaps update us a little bit on how the order pricing and the revenue pricing is looking at a group level? And how is it looking at divisionally and what sort of changes we’ve seen there? And the second question is on the short-term outlook and the growth comment for U.S. and China. Which you have had for few quarters, I just want to be clear. Are you saying that the U.S. and China where base orders decline 6% and 14% in the second quarter, do you think it will be positive year-on-year in the third quarter?

[Eric Elzvik:]

Okay. James, thank you very much for your questions. Let me start with the second one. Look, we don’t comment on the development of orders in the next couple of quarters. We don’t give guidance but I will share with you where we see the market. And the market itself is growing in China and the market itself is growing in the U.S. in a much slower pace than years before. Now what you need to make sure that we get our share of that market. As I explained before, there are certain dynamics on a comparable basis. They are on the steady state business. They are participating and on the peak, on a comparative basis, you get tracked down and that’s what FX that we have had. We do all but as you now again, we really drive our -- especially the penetration effort in that case to mitigate the volatility effect of the peaks that we ahead on certain segments to make sure that we get back into the growth pattern. We have an absolute commitment to drive ABB, the total orders and with base order growth. And we aim to work towards that as strong as we can in the rest of the year. Now on the pricing side, pricing is the mix bag really all around the growth. Because if I take the U.S. through take low and medium voltage in U.S., we had some competitors fighting in the last couple of quarters, getting at each other’s throat and that basically cause some quite strong reactions from the distributor side. We have now head one of the competitors today has historically let down for prices, announcing the price increase. So let see how this comes out. I think in the U.S. we should expect that the market balanced itself out and we go back to a normal pricing environment. There are always pricing pressures but not as significant as it was there. In China, it’s similar. We have had a couple of time very, very actively leading down prices. One of them even stated, he wants to build install base in low voltage, which is an interesting business concept because there is not much service attached to the low voltage, I believe then run their business and we run our business our way We see pricing pressures in China, especially on the standard product institution side. And here we need to make sure that our new products that are coming out are beating all the others in terms of customer value and we got some great innovation coming that ways. Our [indiscernible] bakery, if you take that for example in low voltage, that product is selling because it has an extremely attractive value proposition and it is selling very well. So, we will not join the game on the pricing side. And what we also are doing, we’ve succeed again in the second quarter despite some really tough environment to compensate pricing impact of our cost out. You have seen, we’ve not only done SCN and the quality in operation and excellence. Our G&A is down 7% year-to-date, which means we’ve done a lot of homework in that field. We have taken complexity out. We are differentiating shared services. We are readying now up India and Estonia, our shared service center to further attract G&A. So, we are active on the cost side. We are responsible on the price behavior side and we are very active on driving additional innovation through the channel. And with that, we should be able to address the challenges that still are out there.

[James Moore:]

Thank you very much. Just on the U.S. demand on the oil side, I hear you talking about finding all the channels. But do you think that the U.S. oil impact on demand for you as a business will basically bottom this year and not continue into ‘16? Or do you think ‘16 will be another tough year in oil in U.S.?

[Ulrich Spiesshofer:]

Look, James, it is a very good question. If you take the discretionary spending on oil and gas on the discretionary OpEx and CapEx side, I would expect that to bottom this year. And then you need to see what’s happening with the CapEx side both upstream and downstream. On the upstream side, we see some very cautious behavior on longer term CapEx side. On the downstream side, it’s really interesting. The lower oil price means also that products that come at the end out of the downstream chain become more attractive. And there, we will have to see how these two affects work against each others. On the downstream, unless there is a mistake on the upstream side, for the next couple of years, there will be subdued spending on the CapEx side.

[James Moore:]

Thanks, Ulrich.

[Ulrich Spiesshofer:]

You’re welcome, James.

[Alanna Abrahamson:]

Thanks, James. Next question, please.

[Operator:]

We have Ms. Costa already on the line. Do you want…?

[Alanna Abrahamson:]

Let her try again.

[Operator:]

Okay. Ms. Costa your line is open.

[Daniela Costa:]

Thanks so much for letting me try again. Hopefully, the line is better now.

[Ulrich Spiesshofer:]

We can hear you very well, Daniela.

[Daniela Costa:]

Okay. Great. I have two questions. So the first one was this, can you help us think through the Power Systems margin recovery story from here on how that’s going to be -- how you are going to get from the 2.5% to your targets basically? And the second thing is regarding the cash flow evolution and I know you said basically some of these words on deliveries towards the end of the quarter. It seems like it is quite concentrated and Process Automation. Can you help us understand by region by end market and exactly what was going on in a little bit more detail? That would be great. Thank you.

[Ulrich Spiesshofer:]

Okay. Daniela, thanks for your advice. I take the first one and I will give the cash flow question to Eric. If you take Power Systems, we basically get two types in our hand. The one is to execute a contaminated historic backlog of projects. And make sure, we do them in a way that the customers are very happy. On solar EPCs, our team has done in my eyes a really great job. We got it out and we committed last year that we get the backlog out, it’s done. And that business has stopped. We are not taking anymore new orders. We are doing very well on solar in terms of the overall order patterns but with the new business model where we don’t do EPC, where we do solutions, product and service. The second bucket on the historic backlog is the off-shore wind projects. And they cost a lot of money to complete. And if you look at the substitute margins still against our margin target range, 2.5% is nothing to write home about. If you look further out in the long-term, this projects will cost during this year. During this summer and in fact in the next couple of days, we have some very significant milestones. If we succeed delivering the milestones at this moment, we are on track to deliver them. And you can trust me, each of the three projects are being part of my evening prayers and evening checking everyday. We will have a significant easing both under risk exposure and also in terms of the operating costs to complete this backlog. So for me on the off-shore win side by the end of this year, we should have seen most of it through. We should have most of the cost done and we should have also mitigated the risk downward significantly. So that significant drag on the margin, on the rest of the portfolio will ease towards the end of the year. Now the second piece that we are doing is, we are changing the center of gravity of Power Systems. We have basically here reduced the EPC low margin, high volatility, high-risk EPC part in a very significant rate. If you look at the backlog that we’ve closed with all the new projects, it is a completely different quality backlog. We are also driving the higher margin pieces. You have seen the 20%, based on the growth in services in the second quarter. We have a huge installed base all around the globe. We can do much, much more. We just recently for example, we met the installed base in Sub-Saharan Africa and we have more than 150,000 regional installations now in the systems, which we didn’t have before that we can go after. And naturally, the network management, the good consulting, the engineering piece is also an attractive business that we are going to shape over time. So what you will see basically is this last year was the trough. This year, we are somewhere between the trough and the target range, then we drop out the drag that we have under large off-shore projects, that will be a quantum step up in terms of profitability and then we will grow the business from the lower end of the bandwidth to the upper end of the bandwidth by changing the center of gravity, by making sure we do more on the engineering service, software and solution side over the years to come. So it’s a legacy piece that will be done by the end of the year and there is a former business model change, continued business model change and business center of gravity change that allowed his team are executing already today and will be executing over the years to come. So with that said, I hand over to Eric to give you a little bit more flavor on the cash flow side.

[Eric Elzvik:]

Yes. Daniel, for the cash flow, out of this service and the reduction in cash flow is about $100 million is June translation effect. The remaining portion is about two-thirds, is coming from receivables, some from the milestones of product deliveries, which are mainly as you already spotted in the Process Automation division. And then you have a portion, which is also coming from higher cash tax payment in the quarter, which always is a bit uneven perhaps during the year having paid in taxes. And if you compare for the first six months of the year, ’15 against ’14, excluding the FX effects, divestments and those tax payments, we are roughly on the same level as last year, which is a reasonable level. So the conversion on year-to-date is basically steady somewhat from the year before. Discrete automation as I mentioned already in the introduction is down from a very high level last year. So the level in Discrete Automation is still at quite reasonable level that we have there. But we are working very hard to continue to grow our cash and reduce networking capital. So, we are seeking standardization and further improvements now in the coming quarters.

[Alanna Abrahamson:]

Thank you. Our next set of questions, please?

[Operator:]

The next question is from Mr. Alexander Virgo from Nomura. Please go ahead.

[Alexander Virgo:]

All right. Good afternoon and thanks very much for taking my questions. I just wondered if you could expand a little bit on the commentary in Low Voltage Products with respect to your increased penetration offsetting the challenging conditions in China and the U.S. Obviously, China and the U.S. is very challenging, so I’d just like to understand a little bit better by exactly what is going on the other side of that, that would be very helpful? Thank you.

[Ulrich Spiesshofer:]

Good afternoon, Alexander. Look, on low voltage, I think, Tarak and his team have really figured out the tight formula in a really good way. And I will give you some very concrete examples. If you take the U.S., low voltage has grown in the second quarter in the U.S. And all of the drivers is that on the general side, that we have now legacy ABB’s channel access. We have Thomas & Betts and we have Baldor. Between the three of them, they are historically separately run, there is a tremendous opportunity to help each other and pull each other’s product into the channel on the founded side. The distributors like it because they don’t want to have that much complexity in their van and their warehouses. The customers like it, so we get a higher share of wallet of the distributors by driving it The second piece, if you take Low Voltage Products, a lot of people think that as a write-down product, that’s not true. There is a lot of differentiation that you can do on the innovation side. If you take China, one of our best selling products that we launched a while ago is the three at home under home automation solutions, which is basically a retrofit solution where you rip out in your office the existing sockets, you put others in and then you have a WiFi based, iPhone based serving controls and I can tell you that it sounds extremely well with the middle class in China who is very technology oriented and drives it very strongly. And then you move over to Europe, I will give you an example in Germany. We trained every year more than 10,000 installers. And these 10,000 installers, we can do much more together in the future. We are putting in now the solar offering from Power-One and gift it to our installers. We need to make sure that we in turn are [indiscernible] working very well together between low voltage and medium voltage that we have a better collaboration on the channel on the front-end side to be medium and low voltage and have seamless offering with our industrial customer space. And the third one, that I want to mention in Europe is the OEM, the machinery OEM space. Historically, ABB would have addressed them with different sales forces. Now we go with one coordinated access to the OEMs. And you have seen, we have grown double-digit now by doing that and putting in the product. So that the pi formula is really one then you leave it right. Then you have [indiscernible] ready and you know exactly in which segment you are how strong and what you can do, that’s driving it entirely, has done a great job doing that, while maintaining pricing discipline and not falling into threats like some of our competitors by trying to keep volumes by lowering the prices.

[Alexander Virgo:]

Okay. That was very helpful. Thank you very much.

[Ulrich Spiesshofer:]

You’re welcome Alexander.

[Alanna Abrahamson:]

Thank you. We will take two more sets of questions. Next set.

[Operator:]

The next one comes from Mr. Graham Phillips from Jefferies. Please go ahead.

[Graham Phillips:]

Hi. Yes. Thanks so much for taking my question. Two questions, first, just on pricing, a bit more of a follow-up, when you think about the overall pricing program. Is there anything more that perhaps could be done because it actually accentuates just only offsetting -- the cost saving programs are being offset by the pricing. So is it some way that maybe in terms of cost savings that you could increase the ramp? And the second point is on your discrete automation division. I wanted to think about the progression of margins. I appreciate your comments earlier about the impact in China there. But also when you look at the third quarter, there is typically higher margin development with your new factory on the robot starting up. Is that likely to result in margins being retarded initially or lot of those costs going to be capitalized?

[Ulrich Spiesshofer:]

Okay. Thank you very much for your question. On the pricing side, look -- one thing, we haven’t talked about is price realization. We always talk about how to mitigate the pricing impact but the other things that we are working on is how can I realize a good price with my customer. And that goes into all of terms and conditions that you have. It goes into the -- overall, I said I will look into your customers. And we have some dedicated programs going on pilot in that fields to drive pricing excellence and to increase pricing realization. And that’s also a great way of mitigating pricing effect. On the second one, your catch is right. We have been able to mitigate pricing impact to the P&L by our cost savings. We will give you an update at the capital market day. How we’re going to look at that in the future. We -- as you might remember, we have introduced the concept of 1000 day program and that will be one of the core topic that we give you an update on September 9, what we’re going to do in the future. We need to realize all cost opportunities and we are ready to share more there with you in due course. And then if you take DM journey, on the margin side, I just state to take the robotics feed and then I’ll let Eric cover that one. On the Robotics Factory, you should not expect a significant impact on the DM margin out of the new activity. Mind you, we already head a site up there that we’re doing service and installation. Giving that side a full value chain was not such a large investment. But the depreciation would significantly impact the DM margin on the overall division that will in the quarters to come.

[Graham Phillips:]

Okay. I am sorry. And just to follow up on aftermarket pricing. Is there anything you can say about any pressure that’s coming to that part of the segment, given that that’s a significant portion of your revenues?

[Ulrich Spiesshofer:]

We have a lot of customers that come to us and they look your service partner of company x, can you reduce your prices? And our answer is, we are working with a lot of them now to reduce the cost base jointly and addressing it. We had recently a very good experience with the company that provides rotating equipment into the oil and gas space who has been a long-term partner. They said look on the service side, I really can’t afford at the moment, but to say never said, okay, you are under cost pressure. And we setup a joint team to address the costs challenge that they have and it’s had an amazing impact. We got more orders out of that because the customer like what we suggested in terms of our joint offering. So we can’t do that all the time, we cannot do that all the time, but in certain areas we drive it. And I think it’s a very responsible way to address the interest that the customer has slowing his cost base to the end customers jointly. With that said, I hand over to Erik on the DM margin.

[Eric Elzvik:]

Yes. On DM volume, which obviously is trending down because of the reasons that we have mentioned in the markets, the market term that our outlook is hard weather selling. It’s tough conditions in the market. So we are making a lot of actions to improve and counter the margin development in DM, but we will not give specific estimates for the quarters that right in front of us.

[Alanna Abrahamson:]

Thank you for that. Next set of questions.

[Operator:]

The last question for the day comes from Mr. Andrew Carter from Royal Bank of Canada. Please go ahead.

[Andrew Carter:]

Good afternoon. And thank you for opportunity. Most of questions have been asked, but if I could just try and two. One of them was on Process Automation where I think as of earlier this year, you talked about thinking that the backlog should be able to drive some sales growth in the full year. I recognized that hasn’t been able to be start in sort of Q1 and Q2 and there maybe the other cost deteriorate a little bit. But I wonder if you could give a little bit of an up guide and maybe talk about how the sales growth trend is sort of differing in the sales for the coming truce from the backlog and also in terms of base orders? And then the second one was just on DM. And I just wonder if you could help us understand a little bit about the trend in the base orders that we’ve seen in Q1 and then into Q2?

[Ulrich Spiesshofer:]

Okay. Look Andrew let me take the DM one first and then we move into PA. The DM portfolio is a pretty wide one. As you might remember, we have from robotics to solar everything in there and singling out single trend in any of this business would be very dangerous. So I give you a little bit more granularity here. If you take the four buckets, the fixed into industrial motion piece first, on industrial motion I laid out already that the process industry demand on base orders for motors and drives is subdued at the moment on the one hand by end markets which are soft and the large the motor the more soft is the market and of course is the area on the distribution partners that they have. If you look at the power electronics piece, this is a pretty patchy situation there. We have some really good developments on the rail side. The rail converters and the rail infrastructure approaches are going very well, whilst the larger kind of orders on excitation and also rectifiers on the aluminum side has not come through this year. And that’s what you see in that front. If you take robotics, robotics is going very strong and I’m very, very happy with the business development there, both on the large orders and on the small orders on the base orders there. We have a lot of repetitive orders assembled in China in robotics from the 3C industry that customers are more and more penetrating their plants with more automation offering. And mind you, robotics has also a very strong service offering. And on the service side, we enjoy great stability and a great quality of the business. And then if you look at the renewable piece, the Power-One integration from a operational side basically done, we have done it, we have also moved the plant from Power-One to ABB in a very successful way. The business is taking off from an overall orders perspective. At the moment, as a consolidation going on in solar inverters amongst all the players, you see that a lot of the smaller ones are disappearing. So when that’s done, when the consolidation is through you will see a better base order quality and a base order margin quality coming out of solar. So that’s the granularity that I can give you. Calling it altogether in the end making a prediction for the next quarters, I would like to abstain from that one going forward. And then if you go at PA, look in PA, then PA has about a 30% service part in the overall portfolio. The most massive contraction is discretionary OpEx and CapEx was around service and that’s the reason you see the order declined in PA. So yes, we have had some large orders. If you look at the first half of the year, we have had some good very large orders, but the base service business contraction is one that was much stronger than we expected. Let’s say, in January, we have taken cost action, we have taken capacity action. As you can see the business is still riding on good margin. But you should expect the good margin that was created by revenue execution from a significant backlog project to continue that way, because the mix between base order business and backlog will change in about the next couple of quarters. Calling the timing when that one right Andrew, I will be careful because at the moment the world is really so uncertain and volatile. I would expect that this year is the drop year and the next year we get stronger again. But when exactly that comes back, I can’t tell you.

[Alanna Abrahamson:]

So with that, I would like to thank everyone for their participation and their patience. I would like to remind you also that we sent out yesterday an invitation for the Capital Markets Day. And that we ask if you would like to participate in the Capital Markets Day that you please reply sooner rather than later. It will in London on September 9th at the Hilton. So if you have any further questions, I will available here at Investor Relations. And thank you and have a wonderful day.

[Operator:]

Ladies and gentlemen, the conference is now over. Thank you for choosing Chorus Call. And thank you for participating in the conference. You may now disconnect your lines. Good bye.