EKTAY - Elekta AB (publ) (EKTAF) Q3 2023 Earnings Call Transcript

Elekta AB (publ) (EKTAF)

Q3 2023 Earnings Conference Call

February 24, 2023 04:00 AM ET

Company Participants

Cecilia Ketels - Head of Investor Relations

Gustaf Salford - President & Chief Executive Officer

Tobias Hagglov - Chief Financial Officer

Conference Call Participants

Mattias Vadsten - SEB

Erik Cassel - ABG

Oliver Reinberg - Kepler Cheuvreux

Rickard Anderkrans - Handelsbanken

Julien Ouaddour - Bank of America

David Adlington - JPMorgan

Robert Davies - Morgan Stanley

Presentation

Cecilia Ketels

Good morning, everyone, and warm welcome to the presentation of Elekta's Third Quarter 2022-2023. My name is Cecilia Ketels, and I'm Head of Investor Relations at Elekta.

With me here in Stockholm, I have Gustaf Salford, Elekta's, President and CEO; and our CFO, Tobias Hagglov who will be presenting the results. And today's agenda starts off with Gustaf presenting some highlights of the development, and then Tobias will give you details on the financials and the presentation ends with Gustaf's view on Elekta's outlook. And after the presentation, there will as usual be time for your questions.

But before, we start, I want to remind you that, some of the information discussed on this call contains forward-looking statements, and these can include projections regarding revenue operating result, cash flow, as well as product and product development. And these statements involve risks and uncertainties that may cause actual results to differ materially from those set forth in the statements.

And with that said, I hand over to you Gustaf.

Gustaf Salford

Thank you, Cecilia, and good morning everyone, and thank you for joining the call. So to kick off, during the third quarter, we continued to focus on the execution of our strategy Access 2025. And I would like to highlight some of the key and important initiatives we have been driving during the quarter.

We continue to invest in innovation with customer utilization in mind, and one of the key areas that is really driving Access 2025 forward. We are focusing on the new linac platform software development and the Unity platform. It was actually amazing to see that during this quarter, we also saw the benefits of our innovation as reaching patients.

The first patient being treated with advanced radiotherapy motion management using Elekta Unity our MR-Linac happened in Utrecht in the Netherlands. And in the UK, in Sheffield, the first patient ever were treated with our latest Gamma Knife system Elekta Esprit. These moments are so rewarding for Elekta everybody working here, but also for our customers and their patients. We are continuing to drive adoption and access to cancer care across the global scale and most recently by going direct into the growing Thailand market.

We're also driving a lot of digitization and process excellence initiatives and our cost reduction program is progressing very well. It is vital that our strategy around Access 2025 is delivered in a sustainable way, and that we can measure and reduce our environmental impact.

And a key highlight in the quarter was that we got our science-based target validated here just recently. And I'll come back to that. So if we take a look at our markets and orders, we return to a healthy order momentum growing orders with 9% in the quarter.

In Americas, orders increased by 3% and both North and Latin America showed growth. The latter was driven by strong order intake in Mexico after winning multiple public tenders. In EMEA, orders was flat compared to last year. Europe showed double-digit growth on top of last year's strong growth, and was driven by two big tenders in Spain and Italy that we mentioned before. This slowdown was reported both in Middle East and Africa, but it was really dominated by the Middle East, due to weak markets in places like Egypt and Turkey as a consequence of their domestic macroeconomic situation.

In APAC, orders increased by 27% based on constant exchange rates during the third quarter, and the high growth in the region was explained by strong development in China, supported by public investments into the medical devices in the country, but it was also great momentum in Southeast Asia, both in emerging countries like Indonesia, but also mature markets like Korea.

During the last year, we have extensively worked with price initiatives across our business lines and regions to offset the impact from the higher component and supply chain costs. Price realization for new orders has shown good progress, and we see that also turning into our P&L.

We continue to also have a very strong order backlog of SEK 43 billion, and this is really a stable foundation for driving installations in the coming quarters across our regions. And if you look at the installations in our revenue, the order backlog conversion has been a key priority in the third quarter, and we delivered a strong revenue growth across all our business lines of 8%.

Installation volumes in Americas and EMEA was strong, resulting in double-digit revenue growth in these two regions. APAC was impacted by lower installations in China due to the wave of COVID cases in December and January, but we expect Chinese volumes already to recover in the coming quarter. Americas grew with strong15%, and it was both in North American market and the US had strong double-digit growth together with Latin America.

EMEA grew with 16%, and both Europe and the Middle East and Africa contributed with strong growth in the quarter. APAC came in at minus 3%. And that was really explained by the large impact on the COVID cases in China in December and January. The recurring revenue service came in at 3%, and we had a strong Q2 with 7% in the second quarter. And in the third quarter, our installed base grew with 5%.

So, at the end of the period, Elekta has an installed base of approximately 7,100 devices, of which 5,200 units were linacs, MR-Linacs and Leksell Gamma Knife systems. And to support improved access to cancer care around the globe, we signed an agreement to acquire business assets from a current distributor in Thailand, Premier Business International. And with this local presence, Elekta will increase the commitment to the Thailand customers, while strengthening the position in market with substantial further potential to improve and give access to the best cancer care.

And if we turn a bit to Elekta Unity and the paradigm shifting journey we're driving with the MR-Linac, you can see some of the evidence here. And if we look at the prostate SBRT treatments, you can see that from our MR-Linac consortium is really driving this development and what's possible in radiotherapy.

And if we take a deep dive into prostate cancer treatments and this is a large indication as you all know, you can see that there was a recent publication from the MOMENTUM study and this is the largest study on prostate and it's driving with five fractions and was analyzing the side effects. And this study shows that ultra hypofractionated MR-guided radiation therapy is effective and safe.

And the next step will be to move towards two fraction treatments with MR-Linac Unity which of course will dramatically reduce cost of care, but there was also other key milestones for prostate treatments with Unity. And in Australia, the St. Vincent Hospital, they have done the world's first simulation free treatment ever. And this is a really big step in shortening the treatment time that is benefiting, of course, both the patients and the cancer clinics.

So if we then turn another highlight of the quarter on the sustainability side. In February, we achieved official validation of greenhouse gas emission reduction targets and our science-based targets -- from the organization science-based targets initiative. And this really means that the Elekta’s emissions reduction targets has been validated to be ambitious enough to support the Paris agreement and that our carbon reduction plan is aligned with climate science and really we need what we need to do going forward.

So if we look into the different scopes and how we address them for Scope 1 and 2, we have set two science-based targets. It is about reducing emissions by 46.2% from Scope 1 and 2 over the next 10 years is about transition to using 100% renewable electricity by the end of calendar year 2030. And if we look into Scope 3, it is about cutting emissions from the use of Elekta products by 55% per radiotherapy treatment course over the next 10 years. It's also about engaging our suppliers to sign up for science-based target until 2026 and 2027.

So with that update, I would like to hand it over to you Tobias.

Tobias Hagglov

Thank you Gustaf, and good morning everyone. Now starting with the Q3 financials. Total net sales increased by 8% organically in the quarter with strong installation volumes at the end of the quarter. Installations grew by 12% compared to last year. This was achieved despite continued challenges in the supply chain and fewer installations in China due to a large number of COVID infections. Geographically, we saw strong growth in the US and EMEA.

Our adjusted gross margin was 38.4% an increase both sequentially and year-over-year. Improvements were also seen in our expenses. Expenses in constant currency and adjusted for items affecting comparability decreased both sequentially and year-over-year resulting in an improved adjusted EBIT margin of 10.7%. We continue to see a clear impact from FX in our P&L. Foreign exchange rates had a positive impact on our gross margin, while being negative on the EBIT margin.

So let's look into our gross margin bridge. Our adjusted gross margin increased to 38.4% in the quarter. The healthy net sales growth contributed positively with 320 basis points. Foreign exchange rates had a positive impact of 150 basis points mainly driven by the strengthening of the US dollar compared to last year. The strong solutions growth led to a negative mix effect impacting the gross margin by 100 basis points negative.

Looking into the supply chain, overall freight rates have come down, but we still have component shortages and inflation pressure from material and component prices. In total, the higher supply chain cost and inflation had a negative impact of 200 basis points.

Then, look into our expenses in constant currencies and adjusted for items affecting comparability. All in all, the operating expenses decreased by 1% both year-over-year and sequentially, as we continue to see the results of our cost reduction initiative.

Selling expenses increased by 1% year-over-year in third quarter, driven by more in-person meetings. Sequentially, our selling expenses declined by 6%. Our administrative expenses declined year-over-year and was somewhat up sequentially due to investments in digitalization. Net R&D expenses declined year-over-year, but increased sequentially, as we had higher amortization in the quarter.

So let's look into our R&D spend in more detail. Gross R&D has declined sequentially from the peak in Q1, as previously communicated. Sequentially, capitalization decreased, whereas amortization increased in the third quarter. On a rolling 12 months basis, gross R&D as well as net R&D declined.

Our cost reduction initiative has progressed well and according to plan. Our expenses are declining. During the third quarter, the initiative has reduced our spend by another SEK 70 million year-over-year, leading to a total reduction of SEK 120 million for the first nine months of this fiscal year. This leaves us well on track with the planned year-over-year savings of around SEK 200 million for the full year.

At the end of April, we expect to have reduced the annual run rate of spending by SEK 450 million. As previously presented, SEK 150 million will come from COGS reductions SEK 200 million from optimizing R&D spend and SEK 100 million from lower selling and admin expenses. The year-to-date cost for implementing these cost savings amounted to SEK 263 million of which SEK 64 million impacted our gross income.

Moving over to the balance sheet. Our working capital has been impacted by strong sales growth by the end of the quarter. The buildup of inventories has been an active choice of securing installations and managing supply chain challenges. The high level of shipments towards the end of the quarter generated an increase of receivables and accrued income from which we will get paid in coming quarters.

Then looking to our cash flow. EBITDA amounted to SEK 684 million in the quarter. The working capital buildup amounted to SEK 445 million, resulting in a cash flow from operating activities of SEK 225 million. Our continuous investments amounted to SEK 389 million mainly driven by R&D investments in the linac family and software to strengthen our product offering. All in all, our cash flow after continuous investments was SEK 163 million negative.

Now let's turn slide and look into our financial position. Our net debt-to-EBITDA ratio amounted by the end of the quarter to 1.46. We have upcoming maturing debt in March which we have refinanced after the Q3 closing in February. Through this refinance, we have increased our available funds to more than SEK 3.9 billion and we increased our debt portfolio duration to 4.1 years. All-in-all we have a strong balance sheet and a solid financial position.

Over to you Gustaf.

Gustaf Salford

Thank you, Tobias. And now I would like to take you through the outlook. Looking into the coming quarters, we continue to see an uncertain macroeconomic environment that they would be continuing. However, we saw in Q3 and expect going forward an improved order backlog conversion supporting revenue growth. We have some component shortages still and we believe that inflation will remain and this is putting pressure on margins.

However, at the same time, we are driving the cost reduction initiative that's contributing positively that you have already seen. The long-term market trends is really supporting growth and investment in high-end radiotherapy equipment and margin expansion for Elekta.

So, looking at the mid-term the mid-term outlook until 2024-2025 it is unchanged. So, we are having net sales CAGR of above 7%, EBIT more than percent expansion, and a dividend policy of at least 50% of net income.

So, to summarize the quarter, we see that demand for radiotherapy continued to improve in the quarter and supported our order growth. We managed our supply chain challenges well and could ship throughout the quarter and we have a strong order backlog conversion driving installation volumes and revenue. And we also see that the cost reduction initiative is progressing according to plan, supporting profitable growth going forward.

So, thank you for listening.

Cecilia Ketels

Thank you, Gustaf. And before we open up for questions, I would like you to save the date, 20th of June. This is when we would like to welcome you all to our facilities in Crawley, which is close to the Gatwick Airport, for a Capital Markets Day. And more information about the agenda and the timing will come when we move closer to the event of course.

So, let's switch over to the operator and answer your questions. Please operator, go ahead.

Question-and-Answer Session

Operator

We will now begin the question-and-answer session. [Operator Instructions] The first question comes from the line of Mattias Vadsten from SEB. Please go ahead.

Mattias Vadsten

Good morning. I have a few questions. I'll probably take them one by one. First one, if you could maybe expound a little bit on the very strong orders in APAC 27% year-on-year constant currency. Are there any particular drivers here in Q3 suggesting we should be cautious, or is it just really a higher activity out there now, particularly maybe in China? And then looking at the comp for Q4 both last year and rolling over a few years, it looks quite similar so just how we should think about it in APAC really?

Gustaf Salford

Gustaf here. So, yes, you saw very strong growth in APAC, 27%. The key driver was the governmental programs in China in December giving out interest-free loans to public hospitals and the hospitals investing in cancer care. That results in new licenses. That was a significant driver of this growth.

But we foresee that to continue, because the Chinese market as we mentioned before, throughout COVID has been quite low on the order side and now we expect it to go through an investment cycle again.

But it was not only about China. It was also as I mentioned before, the Southeast Asian markets and Australia and New Zealand. But I think a key growth driver also going forward is China, when it comes to orders. And we have a positive outlook for, I would say, APAC market activity and demand.

Mattias Vadsten

Good. Thank you for that. And in terms of the expected sort of supply chain improvements for Q4 you alluded to in the Q2 report. To what extent have you seen that already now in Q3, given margin expansion year-on-year already now and also with the solutions growth in the quarter? And how does your expectancy for Q4 affect back in November compared to what you see right now?

Gustaf Salford

Yeah.

Mattias Vadsten

That will be my next one.

Gustaf Salford

Great question of course. We had a very strong finish of the quarter. A logistic chain has improved, easy to get sea freight. It's cheaper to get cheap sea freight as well as important for us. Air freight the same, it's much cheaper. It's easier to get hold of. Road, can be challenging a bit costly still lack of drivers and so on. But overall, there's been a big improvement. And I foresee that to continue to improve going forward as well.

Then if you take the procurement and manufacturing side there are still, components that's difficult to get hold of, for example chips. And we work with that on a daily basis to get hold of them for production. But I don't think that's something specific for Elekta, for the industry and many other industries as well. But if you take overall, I foresee that logistics chains and the supply chain will gradually improve going forward. And we saw a really good development here in the last month.

Mattias Vadsten

Thank you very much for that. Maybe the last one for me, before I jump back.

Gustaf Salford

Yeah.

Mattias Vadsten

On the gross margin, trying to set aside FX here, it looks quite strong given there is 61% of sales coming from solution. So could you maybe discuss the mix, a little bit within installations the installations you've done? And how you see it going forward? Is it something we should keep in mind here? That is my question.

Gustaf Salford

You saw in the bridge, I think that -- Tobias. And Tobias can add as well. But you saw in the bridge that the solution service mix was there, because we had a very high growth of solutions.

But within that solution growth there was a good product mix. So that was quite profitable compared to the previous quarters. So that always, as you know changed quarter-by-quarter, depending on what we install and deliver. But in this quarter the solution product mix was favorable I would say.

Mattias Vadsten

Thank you very much for that.

Gustaf Salford

Thank you.

Cecilia Ketels

Operator?

Operator

Next question comes from the line of Erik Cassel from ABG. Please go ahead.

Erik Cassel

Hello. Good morning, Tobias and Gustaf. So I just want to follow-on Mattias' question. So I'm thinking about, how much we can actually extrapolate the strong margins in this quarter. I mean, when we head into Q4, as you said, I would assume that there's still some cost pressures and supply chain issues, maybe also more volumes going into China, which would make solutions still a bit more dilutive than normal on gross margins. But, is it fair to assume that the leverage from higher volumes can offset that dilution effect, or is it rather more reasonable to expect gross margins actually coming down Q-on-Q in Q4?

Gustaf Salford

Thank you, Erik. And a great question, of course. And let me break it down into the different components here. As we all know Elekta is important, with growth to get leverage on our gross margins. That's kind of a starting point. But if you look into the gross margins, you will have inflation on material cost, component prices. Some of these components are difficult to get hold of. There will be higher prices of those. But at the same time you get leverage on these gross margins related to personnel like engineers, or manufacturing workers, and so on.

So we see a bit of that leverage going forward as well. But I think the inflation will impact parts of our material costs. So overall that's what we referred to in the outlook as well. There will be some of that cost pressure on the gross margins going forward. And then, it of course depends on, how much growth we can drive from our order backlog in order to get that leverage, we want on gross margins and then further down in the P&L.

Erik Cassel

But do you think those effects will rather improve gross margins Q-on-Q or they can go down?

Gustaf Salford

I think, it's important to say, I mean, as we always say, but I will say it again, that I mean we are driving for revenue growth over the 7%, and for EBIT margin expansion. So that is true for the coming quarter as well.

Erik Cassel

Okay. Thank you. Then I was just wondering if you could be a bit more specific on how much of the tenders in Italy and Spain you actually booked this quarter, and how much is coming in Q4?

Tobias Hagglov

Yeah. We – regarding the Italian deal, we booked the majority in Q3 here, and we also booked some of the Spanish here. We do not provide explicit numbers on that, but that's how it looks like.

Erik Cassel

Okay. Thanks very much.

Tobias Hagglov

Thank you.

Gustaf Salford

Thank you.

Operator

The next question comes from the line of Oliver Reinberg from Kepler Cheuvreux. Please go ahead.

Oliver Reinberg

Thanks very much for taking my question. The first one would be on China. So can you just share any kind of color what kind of sales development you have seen in China in the first nine months? And any kind of thinking, how quick can now be a kind of recovery be in terms of steeper’s when the market is now opening up? That will be the first question please.

Gustaf Salford

Hi, Oliver. So China it's been, okay, I think installation volumes, but not on a growth trajectory over the last three quarters. But what we see right now is that, the orders are coming back better access to hospitals. There was a huge surge in COVID cases in December, as we all saw in the news. But now we get very good access to the hospitals for installations going forward. So we foresee that growth happening over the coming quarters in China, to install a lot of linacs. The exact number for China for the three first quarters, I don't have that.

Oliver Reinberg

Okay. Thank you. And the second question then on services. So, obviously, service growth was a bit weaker while it's normally a relatively stable business. So, can you just provide a bit more color what happened here? And I assume that, pricing was probably already kind of a support factor? And if you could quantify the kind of price effect in the service growth please.

Gustaf Salford

Yeah. So service -- our target is always to grow service more than installed base growth by adding value to the customers. We did that in Q2. That was a 7% service revenue increase. In Q3, it was 3%. Of course, we want to drive higher numbers there. But then you need to break down the drivers in the quarter what it was. I think when you get growth in markets with greenfield installations that have a lower service contract pricing, even if you raise those prices that will have a bit of an impact on overall service revenue growth. So it's the market mix that in some quarters can have that impact. But over rolling 12 months, over the longer period of time, we always want to see that our service revenue growth should grow faster than our installed base growth, but that didn't happen this quarter.

Oliver Reinberg

Perfect. And can you give us any kind of feeling what was the net price support and service growth?

Gustaf Salford

I don't have the exact numbers, but I think on the pricing overall we have seen on the solutions side that we have raised our prices and we mentioned that before 5% to 10%. Then it's of course about price realization as well exactly what you get in the sales situation. On the service contracts, we always want to reflect the inflation in the specific country. So that is very different. They're often linked to CPI clauses. So that could be lower than in APAC because the inflation is lower, but higher in places like Europe and the US.

Oliver Reinberg

Okay. Thank you. And then the last question, if we just take this kind of components inflation, supply chain and pricing all combined, can you give us any kind of early indication of how you think about these elements moving to next fiscal year? So I guess pricing may be a certain net support, I guess in supply chain there as well the improvements the offset is obviously inflation. So any kind of color if we take this combined before any kind of cost cutting. Is it overall kind of the blend will it rather be kind of slight negative or even a slight positive?

Gustaf Salford

Yeah. Great question, Oliver. And I think looking a bit further out talking about the drivers again. Then as logistics cost as a percentage of revenue, I assume that to improve as it has already in this quarter going forward. So that would be a positive driver. Material component shortages, I think that will improve if you take a 12-month horizon, but the prices are high because of availability. If you take the inflation, I think that's the most difficult part for all of us to evaluate exactly how that will hit on salary increases and components and so on. So I think that we need to follow quarter-by-quarter how it develops. And then overall, I think for Elekta to have the accessibility to our customers to do the installations that's absolutely key to get the revenue growth so we can get the leverage on the gross margin. So that's just sharing my thoughts on those drivers that you were talking about.

Oliver Reinberg

But any color is that overall kind of offsetting each other, or do you guess that we take this in isolation will rather be a further drag next fiscal year?

Gustaf Salford

Our ambition is to improve our profitability and margin expansion quarter-by-quarter. So the conclusion of that is a net positive.

Oliver Reinberg

Okay. Perfect. Thanks so much.

Operator

The next question comes from the line of Rickard Anderkrans from Handelsbanken. Please go ahead.

Rickard Anderkrans

Right. Good morning. So -- thank you for taking my questions. So first question on the contribution margin per region. So a nice pickup quarter-over-quarter, 4 percentage points in both Americas and APAC. But rather muted 1% quarter-over-quarter move in EMEA. And EMEA contribution margin has been significantly pressured. So how much of this contribution margin pressure comes from the tender activities? And is it reasonable to believe that EMEA can return to pre-pandemic contribution margins with these large tenders in the order book and delivery so to speak?

Gustaf Salford

And, yes would be my short reply. But -- so if you look at the quarter, there is impact when we have these larger deals, independent of what region or country it is. You often get a bit lower average prices. Then you will earn that back on aftersales opportunities.

It could be service contracts and so on. So I think that's important to say. And then, overall, I see we will drive good margins from the EMEA region going forward as well. But there is some impact from the installations of the larger tenders in the quarter.

Rickard Anderkrans

All right. Thank you. That's helpful. And a second question, if you can elaborate a little bit on the sort of price realization and the overall margin profile of the large order volumes coming in from China now?

Do you sense any pricing pressure or margin challenges there? Obviously, value volume-based procurement has been a point of discussion in recent years, et cetera. So it will be interesting to hear a bit more flavor on the margin dynamics in China. Thank you.

Gustaf Salford

Yes. So margins in China, you shouldn't see China as a low-margin market. They often want the latest technology, the best available cancer care treatment devices and so on. So we have a strong margin position in China, because of that they want the latest technology. So -- and I think I don't see that will change going forward.

They have a huge need. I mean, linac family, now population could be somewhere around maybe 1.5, 2. So a big need for more cancer care out in the different regions. And I think we will deliver that with a good margin going forward as well.

Rickard Anderkrans

Great. Thank you. That’s all for me. Thank you.

Operator

The next question comes from the line of Julien Ouaddour from Bank of America. Please, go ahead.

Julien Ouaddour

Hi. Good morning, everyone. Thank you for taking my questions. So the first one, assuming, let's say -- so it's on orders, so assuming a large part of the Italian tender was booked in Q3, let's say 75%. According to my math it would imply that EMEA orders decreased by, let's say, 20% at constant currency. Could you spend just a bit of time explaining what such a momentum look like in this region?

Tobias Hagglov

Yes, I can answer. Hello and good morning. I think, first of all, when you look at it, I mean, this is an essential part of our business to participate in this deal. So it's whether to include or exclude it. But I think, I mean, yes, we see a solid order development in Europe and that is also something that we see you had as well.

Gustaf Salford

A little bit longer perspective on that question, if you go back to Q3 last year, it was a really strong growth there as well from Europe. So, I mean, we showed two consecutive quarters year-over-year with strong growth. And part of it came of course in this quarter from the larger Italian tender.

Julien Ouaddour

Okay. Thanks. Which means basically excluding tenders? I mean the -- like the core business is not growing so much like in Europe? I mean, that's mostly driven by tenders right?

Gustaf Salford

The European market is a tender based market to a very large extent.

Julien Ouaddour

Okay, great. Thanks. Thanks a lot. Next question on EBIT. So I just noted an important part of one-off in like the adjusted EBIT this quarter. And a big chunk relates to impairment of facilities, and I think you didn't have it in previous quarters. So just can you maybe also explain what it is exactly?

Tobias Hagglov

No. This is a part of our cost reduction initiatives that we are looking for all costs and what we don't necessarily need to use, we shouldn't use it. So it's actually a -- as we have gone through, I mean for all other costs actually go through, I mean building the facilities that we have and what do we need to use and what we don't need to use. And so this is actually -- it's part of that and will also be one of the contributor for the cost savings ahead.

Julien Ouaddour

Okay. Okay, great. Thanks. And maybe if I can squeeze the last one. You saw an uptick in installations towards the end of the quarter. Just how do you see installation in the next quarter? Do you expect it to be up sequentially?

Gustaf Salford

We're very positive as we also see an outlook that a good order backlog conversion also in the fourth quarter driving growth.

Tobias Hagglov

And seasonally as you know Q4 is our largest quarter.

Julien Ouaddour

Perfect. Thank you very much. Have a good day.

Gustaf Salford

Thank you.

Tobias Hagglov

Thank you.

Operator

The next question comes from the line of David Adlington from JPMorgan. Please go ahead.

David Adlington

Good morning guys. Thanks for questions. Maybe just a follow-up from Julien's on the European orders. I've done the same math and getting down high-teens into the 20s in terms of ex just the Italian order, Netherlands [ph] and Spain. So I just wondered you pointed out some macro headwinds in Egypt and Turkey. There seems to be a lot of headwinds just in those two markets. But also I suppose looking forward from here if that is the headwind do you expect those to resolve?

Second question is on cash flow, obviously, negative SEK1.2 billion in the first nine months. Just wondered what your thoughts were on the full year outlook and how that might improve from here. And then finally just in terms of the capitalized R&D. Just wondered when that's going to be kind of a headwind to margins as that capitalized R&D comes back on to the P&L? Thanks.

Gustaf Salford

Thank you David. So one question on Middle East and Africa was my understanding. One question on the nine-month quarterly cash flow, and one question on capitalized R&D. But if I start with Middle East and Africa question, yes, there is impact of course hyperinflation in both Turkey and Egypt and in parts of the other markets. So it's not just those two countries. But in the region you see some impacts on investment and you having high interest rate and so on. And I think that will not go away in the next quarter.

But overall, of course, Middle East Africa is a huge region and you have many economies that are investing in cancer care as well. But if you would take the two biggest contributors in the third quarter, it was those two countries.

The nine-month cash flow Tobias maybe you can take that question.

Tobias Hagglov

Yes, absolutely. And good morning David, and good to hear you. So, yes, to explain that. We built the inventories and what -- the high sales growth towards the end of the quarter is what you see that this is actually converting into receivables, which we then will get paid here in coming quarters. So that means that we are looking into a healthy cash flow here in Q4.

Gustaf Salford

And then there was a capitalization question as well.

Tobias Hagglov

Yes. Could we repeat that David?

David Adlington

Yes. Just wondering obviously the capitalized R&D continues to outweigh the amortization. Just wondered when we're going to see a more normalization of that and what sort of impact we should be penciling in in terms of a headwind for margins maybe next year.

Tobias Hagglov

Yes. So actually what you will see here is that the gross and net R&D will gradually come closer here in the coming years. And in terms of the P&L impact into next year you will see a higher rate of -- a gradual increase of the amortization leading to a net impact on the P&L.

David Adlington

Is that something you're able to quantify in terms of what happened to absolute R&D spend or percentage headwind on the margin or anything like that?

Tobias Hagglov

Yes. So what we have seen here is that the -- in terms of the gross R&D that has stabilized. In terms of the gross R&D in percentage of sales, we expect that to continue to decline. In terms of the capitalization rate that is driven by the phasing of the projects. It might be slightly lower. And in terms of the amortization that will be a gradual increase so some extent on the P&L into next year, but I wouldn't over accelerate it as well.

David Adlington

Great. Thank you.

Tobias Hagglov

Thank you.

Operator

The next question comes from the line of Robert Davies from Morgan Stanley. Please go ahead.

Robert Davies

Yes. Thank you for taking my questions. The first one was just had on the backlog. You obviously mentioned higher levels of conversion in the coming quarters. Just if you could give us some sense of where pricing is sitting in the backlog that would be helpful? That's the first question.

And then the second one was just on the competitive environment, I guess, across the different regions. You obviously had quite high variability and different sort of order strength in different regions. I'd just be interested to see if there's anything kind of material changing on the ground in terms of competition? Thank you.

Gustaf Salford

Thank you, Robert. So the backlog question, so on average, our booking policy, we book orders three years. If we get the multiple year order for service contracts, it's five years. But on average for Linac, it's between one, 1.5 year if you take MR-Linac or Gamma Knife range as well between order and start of installation.

So most of it happened before -- a big part of it happened before we did all of these price increases initiatives that we have done through say the last year or so. So you will have some of the installations that go out now that was priced before the inflation kind of kicked in. And that's what we're delivering right now. It's impacting a bit on the gross margins, but we see better price points going into the order backlog. And I think we have a good mix in the backlog to deliver in Q3, Q4 and Q1 and so on as well.

On the competitive side, I mean, by market and so on, I think we are, I mean, seeing good development across the different markets for Elekta. If you look at the revenue side, we had a very strong Q3. I think that was a highlight for us compared to the competitive situation. So, I'm optimistic in, I would say, all our markets there. It's always different dynamics. We are strong in the same places like China, emerging markets and parts of Europe as well. We have big opportunities, I would say, in Americas overall, to take more share. So that's something, of course, we are driving for. But overall, I'm kind of optimistic that our model of being really focused on cancer care radiation therapy, together with strong partnerships in all these regions will really drive a good development for Elekta going forward.

Robert Davies

That’s great. Thank you.

Gustaf Salford

Thank you.

Operator

The last question comes from the line of Thomas [indiscernible] from Marble Bar Asset Management. Please go ahead.

Unidentified Analyst

Hi. Thank you. It's Matthias Thorn [ph]. I have three questions, if I may. The first is on the acquisitions of distributors in emerging markets, where we've seen you acquire over the last two years. I think Egypt, Philippines, Malaysia and now Thailand. Just I appreciate that it's probably small investments, but just curious to understand the accounting effects from these transactions. For instance, these distributors have any -- but did you have receivables outstanding to them in anyway, or did they carry inventory? And if so, how is that treated?

The second question is on service contracts. Could you elaborate and explain it -- do these include any -- are they indexed for inflation in any way? And if so, what would have been sort of the like-for-like growth in service orders? And then the third question is looking at the filings from our German subsidiary, and I appreciate it's a small market, but it specifies that your market share there amounted 35% last fiscal year, down from 57% three years ago. So I'm just curious, I know it's a small market. Is this any way specific to Germany? Are you seeing the same trends in other developed markets? And how do you expect to claim that? Thank you.

Gustaf Salford

Thank you. Thank you for those questions. I think on the -- when we go into new markets like, as you mentioned, Egypt, we have done it in Mexico, it's -- Thailand, of course, it's Indonesia, the key thing there is that when a market becomes, say, around 30, 40 of an installed base, that's a good time for Elekta to enter because we have an installed base to work with and we want to come closer to our customers. We want to service them and connect them to the wider kind of Elekta.

And then we often acquire the asset or the company in that country from the distributor because they have built up that market, of course. So accounting-wise, then you'll get more service revenue, because that's the key thing. We have sold our products into those markets, but it has been the distributor that had the service revenue. So that's often a good business case for us to then acquire. And we get profitable service revenue, and we also get growth. And the key thing is that we also come closer to our customers. So that's kind of the strategic background and it's often a good investment case as well for Elekta and why we go into new markets.

On the service order side, and I think I said that already earlier in the call, that in most of our service contracts, we have what we call CPI clauses that's linked to inflation in that specific country. And then that will be added once a year, when you review the CPI development in that specific country. So, it varies country by country what the levels are.

On the Germany disclosure, I need to take a look exactly on those numbers that you were showing, but I think it's not an indication for the overall European market share or anything like that. That's, quite stable. And I would say Matthias, if you take a look in this industry on the market share developments year-over-year, they are quite stable, but they will of course fluctuate a lot, if you take a small market in relation to the total sales of Elekta, like Germany and do that analysis. So I think you need to look at regional level or global level, to really understand the market share development.

Tobias Hagglov

And I can also just add here on a general point here, that I mean here doing these acquisitions in general, is asset-light. So it's – yes, just the comment here as well.

Unidentified Analyst

Okay. Many thanks.

Tobias Hagglov

Thank you

Gustaf Salford

Thank you

Operator

We have a follow-up question from the line of Erik Cassel from ABG. Please go ahead.

Erik Cassel

Thank you. So I just have a follow-up on the market share comments that you just did, and on that being stable over time. I mean, your key competitor is guiding for 9% to 12% growth in 2023 based on a good macro environment. But, is there anything in the competitive dynamics that make you think that you could potentially lose market share in 2023?

Gustaf Salford

No. I mean, I shouldn't comment on our competitors' guidance if I start there, but we guide for more than 7% on the revenue growth. But I don't see any big change in that competitive, dynamic or the market share and so on. I think we have a good opportunity to grow, our market share in many markets. So, that's kind of what I would like to add to that question.

And then, I think, comparing -- it's more and more difficult to compare us with competition, because they're part of a larger international company as well as they are going into areas where we are not part of as well. So we are really focused, and that is our strategy to be focused on radiation therapy, with strong partnerships. So it's -- you need to take that into account as well, when you look at growth rates.

Erik Cassel

Okay. Thanks very much, Gustaf

Gustaf Salford

Thank you .

Tobias Hagglov

Thank you

Cecilia Ketels

And if there are no more questions, we thank you for calling into this presentation. If you have further questions arising during the day, please do not hesitate to reach out to myself or us here at Elekta. And with that, we wish you a good remaining day. Bye-bye.

Gustaf Salford

Bye-bye.

Tobias Hagglov

Bye. Thank you.

Gustaf Salford

Thank you.

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Elekta AB (publ) (EKTAF) Q3 2023 Earnings Call Transcript