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Ericsson reports mixed Q1 results, issues Q2 soft guidance

First quarter highlights – Executing in a challenging market

  • Group organic sales were unchanged YoY. As expected, segment Networks organic sales declined by -2%, driven by lower operator capex and inventory optimization among multiple customers. The decline was offset by growth in other business segments. Reported sales increased to SEK 62.6 (55.1) b.
  • Gross income excluding restructuring charges increased to SEK 24.9 (23.3) b. mainly driven by Enterprise as well as Cloud Software and Services. Reported gross income was SEK 24.2 (23.3) b.
  • Gross margin excluding restructuring charges was 39.8% (42.3%) primarily impacted by changed business mix in Networks. Reported gross margin was 38.6% (42.3%).
  • EBITA excluding restructuring charges amounted to SEK 4.8 (5.0) b. EBITA was SEK 3.8 (4.9) b.
  • Net income was SEK 1.6 (2.9) b. EPS diluted was SEK 0.45 (0.88).
  • Free cash flow before M&A was SEK -8.0 (-1.7) b. Cash flow was impacted by an increase in working capital. Net cash on March 31, 2023, was SEK 13.6 b. compared with SEK 23.3 b. on December 31, 2022.

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Comments from Börje Ekholm, President and CEO of Ericsson
We are on a journey to shape the future industry landscape and extend our addressable market by leveraging our 5G capabilities. We continue to execute on our strategy to strengthen our leadership in Mobile Networks, grow our enterprise business, and drive continued cultural transformation.

Q1 in line with expectations
Group organic sales were flat, as the expected decline in Networks was offset by growth in other business segments, including a 19% organic growth in Enterprise. EBITA excluding restructuring charges was SEK 4.8 (5.0) b.

Organic sales in Networks decreased by -2% YoY. As expected, customers in early 5G markets have slowed the deployment pace somewhat. Our effect on sales is bigger as some customers have also lowered the elevated inventory levels built up in a tight supply environment. We expect this inventory adjustment to be mostly completed during Q2 but may spill into Q3. Significant growth from large roll-out projects did not fully offset the sales impact from early 5G markets. As expected, the increased share of large roll-out projects pressured the gross margin in Networks, however it positions us well for future growth. In Cloud Software and Services, we continued to execute on our turnaround strategy and reduced our loss slightly more than plan. With this progress, we are on track to reaching the important milestone of break-even in 2023.

Following the strong cash flow in Q4, the first quarter cash flow was negative. Compared to last year working capital grew related to the changed business mix with the two components: increased customer financing for large roll-out projects in new 5G markets and reduced trade payables. As usual, Q1 cash flow was seasonally impacted by pay-out of accrued employee-related expenses.

Cost saving initiatives accelerated and increased
Cost efficiency is crucial for our long-term competitiveness. We have accelerated our cost-out execution and have identified additional savings opportunities of SEK 2 b. and now plan to reduce cost run rate by SEK 11 b. by year-end. Our early estimate, given the increased scope and more costly programs in Europe, indicates that restructuring charges may amount to around SEK 7 b. for the full year, of which more than half is likely to be booked in Q2. For 2024, we expect restructuring charges to normalize to about 0.5% of sales.

Progress in responsible business and integrity
As announced in the quarter, we reached a resolution with the Department of Justice (DOJ) regarding the breaches of the 2019 Deferred Prosecution Agreement (DPA). We reiterate, that these breaches were contractual and non-criminal in nature, and that the DOJ has not identified any new criminal conduct after 2016. The DOJ noted Ericsson’s significant progress in building a compliance program that is fit for purpose and works in practice, validating the positive changes. The resolution is an important step and enables us to focus on strategic execution and cultural change. We continue our efforts to simplify the company, increase accountability and strengthen risk management. We are fully dedicated to embedding integrity into everything we do, and we believe this is a competitive advantage.

Driving execution of our strategy
Leadership in Mobile Networks based on technology leadership is a top priority. In Networks we introduced many new market leading products at Mobile World Congress (MWC). Cloud Software and Services is focused on executing the turnaround plan.

We are capitalizing on our leadership position in Mobile Networks and are building momentum towards our vision of a network API platform. Last year we tested Ericsson Dynamic End-user Boost with SmarTone in Hong Kong. At MWC, we showcased the world’s first multi-operator quality-of-service network API on commercial networks, in cooperation with Telefonica, Orange and Vodafone. This demonstrated how advanced mobile network functionality can be exposed to, and easily consumed by, the global developer community. We are working with front-runner customers to establish the market for network APIs, and we see great interest from early adopters. We anticipate the first revenues late this year, positioning us for revenue ramp-up in 2024 and 2025 as our transformation into a platform company accelerates. It will take some time to build this new network API market, but we believe it can develop faster and grow bigger than the market for traditional communication APIs.

With the acquisition of Ericom with its advanced cloud-based security and zero-trust technology, we will accelerate our security offering in Enterprise Wireless Solutions. We now have the capabilities to build a full-stack security service optimized for 5G. A cornerstone in our Enterprise Wireless Solutions is to build a dedicated go-to-market organization which in the short term requires investments. These investments, in combination with the subscription model with deferred revenue, impact reported profitability in the short term. Longer term the business area has an attractive profitability profile.

We continue to finetune our portfolio to optimize profitability across our business. By end of Q1, we closed the divestiture of our IoT platform business, which reduces quarterly losses by about SEK 250 m. going forward. This was an important step in improving financial performance in our Enterprise business.

Managing choppy 2023
We continue to see a choppy environment during 2023 with poor visibility. In Q2, we expect operators to remain cautious with capex investments and continue to adjust inventories. We expect this dynamic to largely be offset by growth from large roll-out projects which, as noted earlier, will be dilutive to gross margin in the short term. In the Enterprise segment, we remain confident of the long-term growth trajectory, and we expect the slower growth we saw in Q1, caused by the slower global economy, to continue in Q2. For Q2, we expect Group EBITA margin to reach mid-single-digit level. We expect a gradual recovery in the second half of 2023, primarily as we expect the inventory adjustments to be completed and our cost reduction activities to start flowing through the P&L. Long-term, previous experience tells us that when operators are seeing underlying traffic growth, this leads to investments in networks in order to avoid deteriorating quality.

Our strategy is paying off and we are excited about our position to capitalize on the full value of 5G. We are driving our transformation to a platform company with a focus on creating a stronger and more profitable Ericsson with a larger addressable market. With the expected recovery by 2024 of the Mobile Networks market, the turnaround of Cloud Software and Services, portfolio adjustments, enhanced R&D productivity, increased IPR revenues and cost reductions, we are on track to reaching the lower end of the long-term EBITA target range of 15-18% by 2024.

CT Bureau

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