Nokian Renkaat Oyj

Päivi Antola - Head, IR Hille Korhonen - President & CEO Teemu Kangas-Kärki - CFO

Mattias Holmberg - DNB Akshay Katkar - JPMorgan Artem Beletski - SEB Panu Laitinmaki - Denske Bank Olof Cederholm - ABG Henning Cosman - HSBC Veera Honkanen - Kauppalehti Kai Mueller - BAML

Good morning from a sunny Helsinki and welcome to Nokian Tyres' 2018 First Half Result Conference Call. My name is Päivi Antola, and I am the Head of Investor Relations in Nokian Tyres.

And together with me in the call I have Hille Korhonen, the President and CEO of the company; and Teemu Kangas-Kärki, the CFO of Nokian Tyres. Teemu started in the company a month ago, so welcome to the team, Teemu.

Thank you, Päivi.

We will start the call with a brief presentation by Hille, Teemu, and then continue with the Q&A. So Hille, please go ahead.

Thank you, Päivi. Ladies and gentlemen, I’m very pleased to welcome you to this Nokian Tyres conference call and thank you for joining us today.

I would first start with the agenda of the call. First, I will summarize first half of the year and provide some market specific views on our performance and also our assumptions for the second half.

I will then hand over to Teemu, who will take the lead in explaining the key figures for the Group. I will then guide you through short business area summaries and our assumptions for 2018 including guidance.

At the end, I'm happy to share the status of our strategic investment projects. To summarize, Nokian Tyres had a good first half of the year with a strong performance during the second quarter.

Sales growth was driven by good development in Passenger Car tyre volumes, the strongest growth driver being Russia. We have also been growing in all other main markets and gaining market share, and at the same time, our average sales price has increased in local currencies which is in line with our ambition to continuously improve our pricing position of our premium products.

In heavy tyres, our ambition is to increase business outside forestry machinery tires, which has traditionally been our strongest business segment. During the first half, our business continued to grow both in forestry and agriculture machinery business.

Operating profit of the Group improved through strong performance in Passenger Car tyres and Vianor. I'm very pleased with the performance improvement that took place in Vianor.

Our basic assumptions behind our full-year guidance are still valid, net sales growth is supported by some growth in Passenger Car tyre replenishment markets and in Heavy Tyres core segments. We are in a good position to further improve our market shares in our core markets with competitive product offering and distribution.

So we are keeping our full-year 2018 guidance unchanged. I will now go deeper into our markets and the growth drivers there, Russia being the most interesting area for us at the moment.

I will start with the Nordic countries where we are the market leader. So new car sales has been growing in all Nordic countries except in Norway we had a small decline in the first half and there will be even more decline expected for 2018 and this is due to the fact that in Norway there is high share of electric cars and there is currently availability issues globally and this will then have an impact on the total new car sales.

In other markets, the growth will continue during the second half. Passenger Car tyres distribution stocks are on normal level, summer season was late with some impact on volumes.

And when we look at the structure of the market, mid and budget segments are still growing and however we have been gaining market share in premium segment and that is very much supported by our strong network of own Vianor's in the Nordics. When we look at the present economic situation, the economic growth continued modestly and it's mainly driven by private consumption as the disposable income has been improving.

New car sales has increased by 18% compared to previous year and it's expected to grow about 12% to 15% during the whole year 2018 compared with 2017. It's good to remember that we are still on a low base estimated 1.8 million vehicles sold for the full-year compared to 2012 which was a peak year having 3 million vehicles sold.

Structure of the car sales has been changing after the peak years, so the share of budget cars has increased and this is also impacting the structure of replacement tyre sales. Today, about 50% of the tyre replacement market is C segment and the share of B segment continues to grow.

Nokian Tyres is focusing on A and B segments where we are the market leader and we have ambition to even improve our position there. The summer and winter tyre sales in for first half saw good growth and we have been over performing the market.

We have competitive product portfolio in both A and B segments very strong distribution, good availability, and a strong team, and we know the market well and based on the sell-out information and discussions with our customers, the consumer sell-out season in Russia for winter tyres was buoyant but summer season turned out to be quite weak due to late and short season, so current summer tyre inventories in distribution are on a high level. This will have an impact on our pre-season sales of summer tyres during the fourth quarter as we are starting the deliveries early enough to be able to cover the whole Russian market.

What comes to the total replacement market sale in Russia? We are expecting close between 3% to 5% in 2018 compared with 2017.

Our aim is, as said, to continue to over perform the market and further increase our market share during the second half of the year. European replacement market in first half was growing in winter but declining in Summer Tyres due to high inventories in distribution from previous year and this had an impact on all producer summer tyres.

Winter tyre stocks in distribution are at normal levels after good winter sell-out level and pre-season sales of winter tyres has already started. We are expecting the total replacement market to show some growth during 2018 and provide tailwind for the business.

In Central Europe, we continue to reduce the share of wholesale customers and increase business with distributors who then buy their tyres closer to the season. This means that our winter tyre sales is materializing closer to the season during both in third quarter and fourth quarter and the fourth quarter sales volume is then very much dependent on the timing of the actual winter.

In North America, new car sales is up which will continue if the trade barriers will not realize and the car tire sale is developing according to the current economic conditions. Nokian Tyres has been growing in the market especially in Canada with our customers and by having wider product range available for the market.

Then when we look at Heavy Tyres, the business segments show positive growth during 2018 and especially the forestry and actually cultural tire segments which are our main focus segments. So as to summary positive market development for Passenger Car Tyres and Heavy Tyres for 2018 will provide a win for growth.

And I will now hand over Teemu who will explain the figures more in detail.

Thank you, Hille. I will go through some of the key figures and if we start with the net sales development thanks to the good volume growth in our potential gross and Heavy Tyres Business we were able to grow on a comparable basis our net sales in the second quarter 15%.

Looking our operating profit improvement there are two main drivers behind that especially the Passenger Car and the Vianor business. In the second quarter, the Heavy Tyres operating profit impacted negatively to our result.

Then if we look our earnings per share you can say that we were able to increase the level of €0.63 and cash flow was €169 million. Here we need to bear in mind that at the end of June, we got back from tax authorities this €148 million.

And if we look our cash flow for the first half, there you can see the improvements also from our businesses and therefore we reached a level of €150 million in the first six months and as you know we are a debt free company, meaning that, our interest bearing net debt at the end of period was minus €100 million. If we look our capital expenditures in the first half it was more or less on the level of previous year about €65 million meaning that we are more geared towards the second half of the year in order to do the investments that we have announced earlier to you.

Back to you, Hille.

Okay, thank you. I will then take the business units and provide some insight into the key topics there.

So let's start with the Passenger Car Tyres. So the top-line growth was driven by both volume growth and positive price mix.

In the product price mix side, the share of winter and SUVs was increasing and supporting our average sales price. What comes to the operating profit regarding the input cost, raw material cost decreased for the period and we are expecting our raw material costs to be flat for the full-year 2018.

This growth has been supported by increased production volumes and we are very happy that we have been investing in automation and capabilities in our both factories in order to be able to react to the market demand. Productivity was slightly down due to the complex mix in the production.

And we have been increasing production in Finland, where the manufacturing cost is higher than in Russia. What comes to the overall capacity?

In Russia, we added capacity during the fourth quarter in 2017 by taking a new line into use and the nominal capacity increased from 15.5 million tires per year to 17 million tires a year. In Finland we have decided to further increase our capacity in Finland starting next year by 1 million pieces and this is not requiring any extra investments we are recruiting new people and adding Saturdays into the production plan.

What comes to the other activities? We are running several projects in all functions in order to be ready to build the necessary business platforms, IT systems, processes in USA when our new factory in Dayton will be ready.

So we have been investing in people and IT systems to be ready for the U.S. market growth and this of course has some impact on our fixed cost.

Then regarding Heavy Tyres, Heavy Tyres continues to grow driven by growing demand of tires for agricultural and forestry machinery and also truck tires. And the growth has been in line with our expectations and naturally we need to further invest in capacity in order to be able to meet the demand and have the supply capability for the future.

Profitability of Heavy Tyres decreased during the second quarter due to currency impact. We have all manufacturing of Heavy Tyres in Europe based area in Finland and of course that's then impacting the EBIT level as well.

We had one-off inventory valuation line there and higher cost as we are ramping up new capacity at the same time we are running the production in the factory. We are expecting the situation to normalize after August and the growth will continue based on the good order stock we have.

In Vianor, we have been developing the network, making sure that we have the right shops in our network and then closing some of the non-profitable shops. We also focus on operational efficiency as well as increasing the service sales and we can now clearly see the impact on our improved profitability.

So we are fully in line with our ambition to have the plus 3% EBITDA target reached by end of 2019. Then let's take a look at the outlook and assumptions for 2018.

There is a long list of assumptions recovering different markets and expectations and we see that these points are still valid for the full-year. And based on that, we keep our guidance unchanged.

We estimate that our net sales and EBIT will grow by single-digits this year. Our rough estimate is from 5% to 10% but of course currencies in general will have an impact.

And when we look at the second half of the year high summer inventories in Russia's distribution will have an impact on our service in the fourth quarter. Then let's take a look at the future and some exciting topics regarding our new products and investments which will support our future growth.

In Passenger Car Tyres, we are stating our brand message, peace of mind under all conditions and that states our focus on safety, superior product performance in tough conditions. We continue to renew our product ranges to support growth.

Here are some examples of products that we have been launching for Nordics, Russia, North America and Central Europe. And performance of our tires is continuously being evaluated by consumers and leading magazine tests.

And this list of products is illustrating our ambition to continuously renew the offering and improve the performance of tires. We have the culture, strong culture of innovation, and being the leading company in winter tires and our ambition is to also increase the innovativeness in summer tires as well.

In Heavy Tyres very much of the growth is driven by having the right products for right applications in the market. Here are some examples of new innovations for example this Tractor King has gained a lot of attention at the recent fair in France, it provides smooth ride even at higher speeds and heavy loads and high durability against punctures.

Then couple of words about our exciting new investment projects. When we look at our normal maintenance investment levels, it’s roughly €100 million per year and the investment focus above that is now focusing on building our third factory in Dayton, U.S.

testing center in Spain, and expansion of Heavy Tyres capacity in Finland. Our Dayton factory project is proceeding according to the plan in U.S.

and we are aiming at starting the commercial production beginning of 2020. Our ambition there is to build a highly automotive factory with state-of-the-art machinery for producing premium quality tires.

We are putting a lot of focus in sustainability and providing good working environment for people. Our factories are known for being highly efficient and design of this factory will follow definitely the same principle and we are all very excited about the project.

We also need to test our tires in proper conditions, in real conditions. In Ivalo we have been testing the winter tires over 30 years and now that we are planning to grow both in summer tires and all season tires we need to have a testing facility that provides warmer decrease compared to Lapland, so we are starting now the project to establish a new testing center in Spain.

And this project will take two to three years to be complete. So our focus in the second quarter and beyond is very clear.

We will further strengthen our position in home and growth markets for Passenger Car Tyres, we will grow Nokian Heavy Tyres in a profitable manner, and we continue to improve Vianor's profitability. And our performance during the first half is confirming that we are doing the right things.

We want to share our plans with you in more detail in Capital Markets Day which we will organize in Helsinki 13th of November this year. So I want to welcome you all warmly to the Finland in November.

So thank you for your attention and now we would like to take the questions. Thank you.

Thank you, Hille. So operator we would be ready for the questions from the audience please.

Hi, thank you very much. If my calculations are correct, the price mix effect for the Passenger Car Tyres division in Q2 was down by 1% year-over-year, and I was wondering if you please could explain why this is negative?

And why I'm asking this is that, in Q1 to begin with, you reported a positive price mix effect of some 3% and you also said that you had implemented low-single-digit price increases in both Russia and the Nordics to compensate for some of the FX movements. So to me, it doesn't really add up how Q2 could be negative.

Thank you.

Thank you for the question. Yes, you’re right that in the second quarter the average sales price is close to flat compared to the first quarter and it's driven partly by the mix in Russia and there we have been able to increase our sales prices in the Premium segment but then in the Mid-segment there it has been not as strong in terms of pricing in the second quarter.

Okay, thank you. And I have a second question as well on Heavy Tyres, you mentioned some inventory valuation which impacted the quarter.

And I was wondering if you could by any means quantify this or sort of let us know if it's a matter only isolated to Q2 as well. Or if you expect any effects from this going forward?

Yes, the main items affecting the profit in the Heavy Tyres in the second quarter were the ramp-up cost of the production, inventory valuation and then the currency impact that flows more heavily down to that bottom-line and the inventory valuation topic, it is related to the Q2, so it is smallest one-time event. And we haven't quantified that.

Thank you. I will step back in line.

Thank you, Akshay, JPMorgan. Our first question again coming back to the price mix.

Just wanted to confirm that 1.3% price mix is for the first half and this is I understand that pricing in Russia was a little weak but this is still quite low because you in your presentation highlighted stronger pricing in other market as well as higher share of winter tyre sales in the second quarter specifically and it is much lower than your European peers as well, the price mix. If you can get some additional commentary around that?

My second question is on Russia, car tire sell in the first half was around 10% and you have maintained your full-year guidance of 3% to 5%, are you expecting slowdown in the second half. And again on Heavy Tyres, can we get a sense of the ramp up expenses in the second quarter and how should we think about those in the second half?

Thank you.

So thank you for the question, I will take the first part. So regarding the price mix, there is a component regarding the sales structure in Russia where we had more Nordman share during the first half compared to previous year.

So it was more B segment focused.

And there was question about the Russian guide or the guidance and relating to the Russian outlook.

Yes, this is our best understanding. We don't see that the situation has been changing.

We have a clear visibility to what our customer's inventory levels are and our assumption is based on that, so they will definitely have some issue with warehousing capacity and credit limits what comes to the rest of the year and that will impact how they are buying appreciation tires for the coming summer season next year.

And there was the third question about the Heavy Tires ramp up cost for the second half of the year, what the impact will be?

We're expecting that impact will be lower than in the second quarter.

Yes, good morning. This is Artem from SEB.

A couple of questions from my side. So first of all looking at your volume development, if I calculate it correctly, so the growth was some 19% in Q2 and 14% was basically for first half of this year.

Should we expect some clear slowdown for second half of this year? And really may be just at 19% figure, so it looks quite very strong, so how it was really possible?

Has there been any inventory impact or sales shift from one quarter to another? And the other question is relating to ruble impact and this topic has been discussed in Q1.

So has it been really the case that you have been also sort of say pressed in terms of margins from weak ruble in Q2 and that the situation should be reversing in second half of this year.

Okay, thank you Artem. What comes to the volume growth it has been very strong during the first half and what we are seeing is that as the Russian market has been the main growth driver for the first half.

The growth will not be as strong during the second half compared to the previous year. I said this is impact -- being impacted by the high channel inventories in Russia.

And if I continue on that due to the summer season delays, as Hille mentioned, the inventory levels are high and therefore we are expecting that to impact to our sale in the second half of the year.

Okay. And maybe the second one was relating to impact from weaker ruble on your margins and how it looks for second half.

In terms of currencies we don't want to state any views on the future quarters because nobody knows where the currencies are going.

Thank you. I have two questions.

Firstly still going back to this Russia inventory comment, so what is kind of the magnitude of this issue? I mean, Q4 was the last year it was only quarter when your sales was down year-on-year, what is the kind of expected impact for this year from the inventories.

And secondly on the price mix compared to the raw material costs you had a lower raw material cost in the first half but you'd say the full year will be flat, so should we expect kind of raw material cost to go up in the second half and then what are your expectations for the price mix compensating that? So do you see it is squeezing or improving your margins in the second half?

Thank you.

Let's start the last question regarding the raw material prices so in Q2 we saw a decrease in the raw material prices and as you pointed out we expect that to the increase from Q2 meaning that on a annual level we are more or less on the same level as previous year.

Yes. And then coming back to the question regarding impact of Russian channel inventories on our second half, half year sales usually the fourth quarter is the strong quarter when we are selling the summer tires for our Russian customers and now that when we look at the outlook growth will be between 3% to 5% during the second half, the sale in of replacement tire, so between three to five, no sorry for the full-year and the growth was 10% during the first half, so it's quite easy to calculate from that that it can be even flat compared to the previous year level.

Thank you. Just a follow-up to my first question, so how do you set a price mix developing are you implementing price hikes or have you done those to compensate for the higher raw material cost.

For the -- for the full-year, we estimate the raw material cost to be flat and when we look at the third quarter it will be lower compared to previous year's third quarter and it will be then higher during the fourth quarter and that's coming basically from the higher prices of chemicals and we have been already buying all the raw materials for the rest of the year, so we should be quite in line with this. And what comes to a price increase is we have been making price increases already in some markets for example Russia and our markets and the market situation and our position there is different in different markets, so it varies but in Russia we have been increasing the prices between 3% and 5%.

Hi. Just maybe to be bit boring and ask a question again about the price increases that we just talked about.

Are those 3% to 5% price increases in Russia additional on top of what you did in the first half of the year? So it would be a step up in pricing in the second half of that year?

Then I have another one.

Okay, thank you. They are not additional.

They -- we make the price increases twice a year for always for the season and these are the price increases that have been done regarding the seasonal price list.

Okay. So all things equal, then you expect the price versus raw material situation to deteriorate somewhat during the second half compared to the first half?

As stated, in the first half, we got positive tailwind from the raw materials and then going forward in the second half it should be more or less flat by and large.

A question about your production volumes going forward and maybe into 2019, 2020. It looks to me as if we should think about production output growth of around 1 million tires per year for both of those years in 2019 in Finland, and 2020 in North America.

Do you think you can do anything on top of that in terms of productivity improvements and so forth?

Well based on our own estimates, we should be in line with the demand and what comes to the productivity, we are running very complex mix in our Russian factory while we still have all the North American products being produced there. Once we have the Dayton factory up and running, we start to transfer the SKUs from Russia to North America to the Dayton factory and that will then naturally increase the capacity in our Russian factory.

Yes, thanks a lot. Please could I ask as a first question, why you've decided to stop giving us the bridge in Passenger Car Tyre division?

And if in absence of that we can assume at least for volume, price mix, currency similar drop throughs to what we got accustomed to when you were still giving the bridges, is my first question.

Based on the feedback we have collected from you that was the reason why we dropped that, but we will improve hopefully we will provide you something more valuable in the coming quarters.

Okay. Thank you.

And for the EBIT, could I ask you to --in the first quarter conference call you had commented on -- narrowed this guidance a little bit down. And I think you indicated that EBIT growth in the full-year 2018 could be in a range of 5% to 10%.

And I think consensus has orientated around that quite closely. I think it's exactly at the midpoint currently.

Are you prepared to comment on that? Maybe tell us if you're still happy with a range of 5% to 10% EBIT growth in the full-year 2018, maybe a bit stronger in H1, what you've reported today.

But seeing your comments on Russia, maybe a bit weaker, so net-net quite the same. Is that fair?

So thank you, yes we are confirming our guidance, so our rough estimate is that we will grow by single-digits this year both net sales and EBIT and the estimate is between 5% and 10% and I said the currencies in general will have an impact also.

Yes, that's great. Thank you.

And I've read a press interview with you recently where you said that you wanted to double your sales in North America and increase your Central European sales by 50% over the next five years. So that's basically 15% CAGR in North America, 18.5% CAGR in Central Europe, over and above that Russia is still far away from peak.

So is that consistent with the capacity ramp up plan? Isn't that little bit ahead of the capacity ramp up plans that you have?

Well, we are estimating that our capacity should be in line with our growth ambition and we have been growing in North American according to the plan and of course this growth is never linear. So we also need new products to support the markets we need the new distribution, so we are facing our activities according to the more detailed plans.

And finally, if I may, is it still accurate to assume a 2 percentage point margin dilution vis-à-vis 2018 and 2019 and 2020 due to the regional expansion and the ramp cost in North America. Is that still what you're currently seeing?

Yes, that's our best estimate during 2019, 2020 probably also 2021 we will have in Passenger Car Tyres heavier cost base due to the fact that we are at the same time ramping up the new factory and also producing and supplying the North American market from Russia which includes higher cost of logistics and duties.

So margin below 2018, yes?

Yes, 2019, 2020, yes.

Thanks a lot. Sorry for all the questions.

May I continue to answer our -- the first question you had regarding the full-year. As we mentioned the inventory levels in Russia that was the view that it might have an impact to our sales in the second half as well as like every year the timing of the winter season start might have an impact as well.

Hi. I would like to add about the improvement in Vianor, so what are main factors behind it and how many shops were closed and are you going to close down more shops in the second half year?

Thank you.

So Vianor improvement operating profit improvement is due to the structural changes and also improved operational efficiency. And we have been selling some shops in Central Europe last year, so the structure is couple of shops later this year and this is an activity which is normal for the retail chain that you continuously monitor the performance of shops and the flow of customers and consumers and then you close some and you set up new ones.

So we don’t have any fixed plans for closing any shops during the second half but I would like to emphasize that this is something which is ongoing activity in the retail.

Thank you. That was my question.

Thank you.

Hello, thank you very much for taking your time. The first one if I'm ask your CapEx obviously has been running quite a lot below soon after the run rate for the year did you expect the significant step up in the second half or do you think something could slip into 2019 as well?

So that's a good point when we look at the numbers. There is some activity which is not yet included due delayed invoicing for example related to our Dayton project.

So overall our estimate for the full-year is still valid.

Okay, perfect and then on your tax refund that you received a money back around €148 million I understand you have been received that amounts but you haven't booked it yet because it's still not finalized, what's the timeline on that and what would be the next steps?

Yes, we haven’t booked that to our income statement yet due to the fact that the tax recipient service unit has applied for permission to appeal and we are expecting to hear from that during the call and then we can see if case is closed or not.

And if the appeal is permitted would just continue to be an ongoing process but you would be keeping the cash on your balance sheet in the mean time?

That's right.

Okay and then just sort to come back similar to what Henning had asked earlier. And obviously, you always your guidance is always at current exchange rates and you said your operating profit to be in the mid-single-digits, we are 5% to 10% can you just clarify that 5% to 10% is that before fixed or is that all-in i.e.

on a reported basis year-on-year.

Those are the reported figures.

Those are reported, they already take into account any effects.

Our guidance for the full-year that we said that we are growing. That is the reported numbers that we are guiding and the current estimates that we gain in the beginning of the year means we are basing our guidance on the beginning of the year foreign exchange rates.

Okay. Okay.

All right. So the 5% to 10% is where you think you'll end up at the end of the year but that's the beginning of the year FX.

Yes and with the comments that we have made in this call regarding the inventory levels should be taking into account that has changed from the previous quarter as well as like every year the start of the winter season might have an effect.

Okay, perfect. Thank you very much.

Yes, sorry. I'm a little of a confused now as to whether it includes or excludes currency.

So to make it a bit easier, could we just use a range and say in absolute reported terms, will it be in a range from €385 million reported to basically €400 million reported, is that what you are saying?

We just want to reiterate our guidance that we expect our net sales and operating profit to increase with the current exchange rates and these were the exchange rates at the beginning of the year.

Okay. Well, I don't think that makes it any clear.

So I mean, if I can just rephrase it in my own words it's, adjusted EBIT or operating profit is up 5% to 10%, but if currency is negative then the actual reported number could be below that range. Is that correct?

I just reiterate what I said that our guidance that was stated in the beginning of the year was based on the current exchange rates at the time. And then the reported number naturally has an effect from the currencies.

So sorry to come back not on the guidance this time but on your EBIT that you said obviously you’re not reporting at the moment but you come back with something else, what would we’ll be looking at, would be looking at similar quantifications on volume drop-throughs price et cetera, what’s your plan on that because obviously that’s an big impact in terms of how we look at your business going forward?

I’m sure that we will provide some kind of a bridge for you and when I'm meeting you face-to-face I’m happy to take any inputs from you as well.

Thank you. Thank you for the questions.

Before finishing I would like to go back to what Hille already mentioned earlier in the call. So we will be organizing a Capital Markets Day in Helsinki on Tuesday, November 13th and more information on the event will be published in the coming weeks and this ends today's conference call.

Thank you for participating and have a nice day.