ETTYF - Essity AB (publ) (ESSYY) Q4 2022 Earnings Call Transcript

Essity AB (publ) (ESSYY)

Q4 2022 Earnings Conference Call

January 26, 2023, 03:00 AM ET

Company Participants

Josephine Edwall - Senior Vice President, Communications

Magnus Groth - President and CEO

Fredrik Rystedt - Executive Vice President and CFO

Conference Call Participants

Victoria Nice - SG

Charles Eden - UBS

Faham Baig - Credit Suisse

Fulvio Cazzol - Berenberg

Celine Pannuti - J.P. Morgan

Karri Rinta - Handelsbanken

Karel Zoete - Kepler Cheuvreux

Linus Larsson - SEB

Othmane Bricha - Bank of America

Simen Aas - DNB Markets

Presentation

Josephine Edwall

Hello, and welcome to Essity's press conference about our year-end report 2022.

I'm Josephine Edwall, Senior Vice President, Communications. And here us with you today, we have Magnus Groth, our President and CEO. And he will join us from our office in Ismaning, Germany. And in Stockholm, our Executive Vice President and CFO, Fredrik Rystedt, will also join. And in the end, as usual, we will have a Q&A session.

So, with this, I hand over to you, Magnus.

Magnus Groth

Thank you, Josephine, and good morning, everyone, to this Q4 full year report, but also with a focus on the fourth quarter, of course.

And to summarize the fourth quarter, we saw record high sales and -- both in growth and sales in total. Our adjusted EBITDA was in line with 2021 despite significant cost inflation. Of course, the massive price increases that we put through played an important role here, but also efficiency improvements and higher volumes. So, we were able to combine throughout the year, price increases with the continued volume growth. We did three acquisitions during the year. So, I'll talk a little bit more about them. And a very high pace of innovation, higher than in the years before. E-commerce grew with 20% to 15% of sales.

So, the financials for the full year, net sales increased with nearly 30% and the sales -- organic sales growth, including M&A, was 17.7%, of which acquisitions amounted to 2%. Adjusted EBITA, as I mentioned, almost in line with the year before, thanks to the top-line growth in combination with efficiency improvements. Adjusted EBITA margin, 8.4%, and ROCE at 9.7%.

With all of this combined, the Board suggests to the Annual Shareholders' Meeting an increase in the dividend from SEK7 per share to SEK7.25, which means that we continue on a nice gradual increase here in the dividends, provided an increase, if that is approved by the Annual Shareholders' Meeting, by 4% compared to the year before.

I mentioned three acquisitions, Legacy Converting, which strengthens our offering in North America in wiping and cleaning, and Knix and Modibodi that we've spoken about before that saw significant growth here in the fourth quarter, giving us a leading position in leakproof apparel in the world. Very exciting, very sustainable, very much in line with what our consumers and customers are looking for.

I mentioned that our pace of innovation was higher than in previous years. We have launched over 30 new products and some of them you can see here behind me, which is 20%, 30% more than the year before. So, in spite of the difficult and challenging market conditions, this is important to us, and we can continue to invest here.

E-commerce, SEK23 billion of e-commerce sales, a growth with 20%, and this is in a year when many e-commerce and -- sites or e-commerce businesses have been struggling coming out of the pandemic. So, we still grow slightly faster in e-commerce than we do as a whole. And you can see the split here and what we expect going forward is that direct-to-consumer, which is currently 2% of sales, will be higher -- gradually a higher share going forward with the acquisitions of Knix and Modibodi, but also with other initiatives that we are doing in the company.

Something that's really, really key to us is to remain in the lead in sustainability, and we saw a lot of progress also in 2022. We were able to continue our path to achieving a reduction of our Scope 1 and 2 emissions to 2030 by 35%. We're now at minus 18%. And today, I only present Scope 1 and 2. Scope 3, we're still waiting for those numbers. It takes some more time, but we expect to see good progress in that area as well. And then, you can see a list of awards and recognitions there from very reputable institutions. So, this is something that's so appreciated by our customers, our consumers, our employees and other stakeholders.

Moving over then to the fourth quarter of this year, which might be the part that's of most interest. Again, very strong sales growth, net sales 28%, and the sales growth in the quarter organically with acquisitions of 16%, and an adjusted EBITA that grew over the same quarter of last year with 33%. And you might wonder, of course, how can this be when the margin is only up 30 basis points from 9% to 9.3%. But this is, of course, due to the huge growth in top-line. So overall, if margin is increasing slightly, which we're very happy about, we're even more happy about the fact that overall, the EBITA profit is growing by 33%. And adjusted ROCE improves with 130 basis points and earnings per share by 20%. So, a very strong development in the fourth quarter.

The adjusted EBITA bridge where we saw a support from gross profit margin of 70 basis points in Q4, and this was in spite of headwinds from raw materials, energy and distributions of 950 basis points. So, we are now through our price increases and other initiatives over compensating for that for the first time. So, we are really moving here.

A&P in line with EBITA growth, which means that A&P is increasing, but not as a percentage of sales. While SG&A, which is lower as a percentage of sales for the year increased in the fourth quarter. And this is a combination of salary inflation, higher payout on incentive programs in 2022, travel costs. So, it's more of normalization effects than -- but also some salary inflation rather than that we're taking on actively more cost, which we are not. So, that's the overall bridge.

And another way of looking and presenting that was much discussed in the last quarter is this input cost increases versus implemented price increases. And after the third quarter, we presented that we were catching up with the cost inflation in energy, raw materials and distribution, and we were less than two quarters behind. So, I'm really happy to announce that we have now caught up with these costs after having a sequential price increase from Q3 to Q4 of 6%. So, as you can see, a really steep uptick there in the curve when it comes to price increases.

Now, looking forward, even though we see stabilizing input costs in these areas, we expect to continue to have inflation, salary inflation and an inflation environment in maintenance, in our SG&A costs, sales administration, which is particularly when it comes to salesforce, important for Health & Medical. And this is something that we will have to continue to compensate with price increases. So, price increases is still high on the agenda even though we have caught up in this area.

So, with that, I will hand over to you, Fredrik, to talk about our three business areas, which have all of them grown through the year. So, over to you, Fredrik.

Fredrik Rystedt

Thank you, Magnus.

And I will start with Health & Medical. And we achieved a good growth, organic sales growth in Q4 with 4.6%. And all of our business areas are affected by lower activity in Russia, including Health & Medical. And as you know, we are in the process of exiting our Russian business. If you exclude that for Health & Medical, organic growth amounted to approximately 5.1%.

And this is mainly driven by pricing. You all know that pricing in comparison to our other business areas is a bit of a slower process, reimbursement systems, tender business and [Inco] (ph) are the main explanations to that. But despite that Q4 of '22 in comparison to Q4 of '21, we increased prices with over 7% and sequentially, just from Q3 with 1.7%. So, really, really good progress there on the pricing side.

You can see that volume was slightly negative, and this is predominantly driven by the fact that we abandoned a few loss-making or non-profitable contracts in Incontinence Health Care.

So, cost inflation continued to be very severe. And if you look at the margin impact, just in comparison to the same quarter of '21, the margin impact was 6.6 percentage points, 660 basis points. The main drivers there being superabsorbent and fluff and actually negative currency transaction impact.

Now, we expect, as we go forward, that input cost for Health & Medical will largely stabilize. But -- and I think you mentioned that previously, Magnus, if you look at indirect cost inflation is quite significant. And not least for Medical, this is a major factor. So of course, we will need to continue to increase prices as we progress in coming quarters, of course, to compensate for that, but also to restore the margins of the business area.

Now, just a final couple of comments on the acquisitions that we've made. So Hydrofera, Aquacast and the sports tapes business with several brand names, they all have been well integrated now into the rest of our business, strengthening our offering, all performing very well. And just take that as an example of Hydrofera in Q4 with a growth of 11.4%. So, really a good progress on the acquisitions.

Now, turning to Consumer Goods, really excellent growth, as you can see, nearly 16% here organic. And of course, the same as for Health & Medical has also been impacted by the -- or the lower activity in Russia. And here also the exit of the baby diaper business in Colombia. And if we kind of adjust for those two, growth was actually roughly about 17.5%. So, really strong.

And same here, the main driver was actually pricing. So, we achieved a kind of year-on-year in Q4 of roughly about 20% and sequentially a bit over 6%. So, very, very strong progress. And we had that pricing increase in all our categories and all our geographies. And of course, as we have seen also before, here, consumer tissue was the main driver.

You can see here that volume actually was down, and this is new, because we have seen volumes previously in -- during 2022 actually being positive. Here are the main drivers, and if you disregard here Russia and baby, approximately 3% down in volume, the main drivers being consumer tissue and baby. And if you take consumer tissue as a start, then, of course, this was impacted by the very significant price increase. But actually, to an extent also that price negotiations were ongoing during the fourth quarter impacting that. It's our actual belief here that -- it's absolutely our belief that as competitors catch up in the balance between input cost and pricing, volumes will pick up in the coming quarters. And of course, when it comes to baby, the impact was there beyond LATAM, also the fact that we also, in this area, left an unprofitable retailer contract. So, this was the main explanation.

So, if you look at the input cost, starting with energy, it was actually much lower in the quarter than we anticipated, and this had to do with a couple of different things. So, first of all, generally, pricing levels in the spot part of our energy consumption was lower. And secondly, we had subsidies in the European system and also a couple of one-offs. So, in terms of the energy price, it was much lower. But you can still see that the input cost was -- the impact from that was very severe with 1,130 basis points, so really very significant.

And as -- exactly the same as for Health & Medical, we see inflation in indirect costs. So, basically, in coming quarters, we'll see input costs to actually stabilize with the exception of one thing, and that is the energy that will significantly increase. A couple of reasons for it. The prices in our hedging contract will be significantly higher. And the one-offs and the subsidies that I mentioned earlier will not be there in Q1. So, we will see that increasing. And the same goes for indirect costs that will increase. So, overall, of course, we will continue to work extensively with price management.

And then, finally, a couple of comments on the acquisitions of Modibodi. It's early days there, but it's a good progress and progressing in line with our plans. And as an example, Knix had a growth in the fourth quarter of 28%. So, we were really happy with that. And it was specifically in the United States, that was the main driver. So, very much in line with our hopes for the company, so performing well.

Turning to Professional Hygiene. We've been really pleased with the performance of Professional Hygiene throughout year, and Q4 was really no exception. So, if you exclude Russia here, the organic growth was pretty close to 20%. And PH, or Professional Hygiene, is the area where prices have increased the most. So, Q4 versus Q4 of '21 was increasing with about 30 -- 23%. And sequentially, we increased prices with approximately 8.5% between Q3 and Q4.

Now, volumes were negatively impacted, as you can see here. And the price increases played a part of that. I mentioned Russia earlier. And we also had a quite challenging market in the -- in Asia, and you can actually see this very clearly from this slide, when you compare the organic sales growth in mature versus emerging market.

Now, also and pretty much the same story in terms of Professional Hygiene, input cost inflation was very severe and input cost increased or had a margin impact of roughly about 690 basis points. So, very, very severe.

But as you see, and this was also the same for Consumer Goods, that overall EBITA is much higher. And here, we also see -- and it was slightly so also in Consumer Goods, but here, a very, very significant margin improvement. So, we are quite happy with the performance, as you can see here from Professional Hygiene.

Now, the cost outlook remains pretty similar to the other. Energy will increase significantly in direct costs. So, although margins have picked up here, it is definitely our view that prices need to stay and potentially even increase further.

Now, just as a final comment also in this area, we made an acquisition at the early part of 2022, with Legacy Converting, really strengthening our offering in the wiping segment in North America. And also, Legacy has performed well in the fourth quarter with strengthening margin and growth, good growth. And if you look at the total wiping and cleaning business in Q4, it actually increased with a bit over 12%. So, good progress in general for Professional Hygiene.

And with those words, Magnus, over to you.

Magnus Groth

Thanks, Fredrik.

So, after having listening -- listen to that, it's quite clear what our priorities are for the year ahead. Price management will remain very, very important for us and a strong focus, but also our longer-term efforts to innovate, to strengthen our brands and to launch products and solutions that our consumers and customers appreciate.

We also will have a strong focus on cost efficiency to manage also the increases that Fredrik referred to in indirect costs. So that's an important focus for the year. And of course, as always, working with the overall mix to grow faster in the high-margin businesses and continuing our very important sustainability journey. So, very clear priorities for this year, and we're already one month into it and working hard in all these areas.

So, thank you for listening. Let's open up for questions. Thank you.

Josephine Edwall

So, thank you, Magnus. Thank you, Fredrik. And let's invite our audience for a Q&A session. Operator, can you please help us open up the lines?

Question-and-Answer Session

Operator

Thank you. [Operator Instructions] We will take the first question from Victoria Nice from SG. Please go ahead.

Victoria Nice

Hi, there. Good morning, everyone. My first question is on other costs, which stepped up sequentially again by around another SEK900 million. What is driving that other than the more negative cost savings? Could we assume that there's some reallocation of energy cost to surcharges within other costs versus underlying cost allocation?

And then, my second question is on the volume drop off in Professional Hygiene, in part driven by the sequential step-up in pricing. Was the volume reaction more than anticipated? And are you seeing greater elasticity in Europe as we're hearing from some other companies? Or perhaps is there an element of forward buying by distributors ahead of anticipated or planned price increases? Thanks very much.

Magnus Groth

So, Fredrik, if you want to start with the first question, I will take the second about Professional Hygiene.

Fredrik Rystedt

Yes. Basically -- thanks, Victoria, for your question. I'll give a brief answer, and we can provide more details should you want that.

But if you take the overall cost increase, it's mainly related to distribution cost overall being higher. It's also actually inflation in our product or our COGS relating to inflation in salaries, and the rest is largely actually due to SG&A. And if you look at that SG&A, it's driven by many factors of salary inflation. We actually have a bit of higher bonuses this year in general inflation. So, it is a cost increase that we see that's generally driven of the market conditions, and to some degree, as I mentioned also, bonuses.

Magnus Groth

Okay. So, regarding the second question about Professional Hygiene, we have a very, very strong performance in Europe and an improving performance in the U.S. and quite weak development in Asia in the quarter, as you could also see from the much lower sales in emerging new markets. Nothing specific, no news about any prebuying in anticipation of higher prices or anything like that. I think it's just one of those variations in general. I feel very confident about our Professional Hygiene business that it will continue to develop really, really well as it did in the fourth quarter and throughout the year actually.

Victoria Nice

Thank you.

Operator

The next question comes from Charles Eden from UBS.

Charles Eden

Hi. Good morning. Thanks for taking my questions. My first one is on price increases, you mentioned the need to take incremental price increases again in '23, Fredrik. Are you able to give a magnitude of sequential increase you're looking for in Q1 like you did with respect to Q4, with the Q3 results last year?

My second question is on energy costs. And obviously, it's not an insignificant number for Essity. You are normally, I believe, on average, 70% hedged entering the year. I just wanted to clarify, is that still the case for '23, i.e., the variable impact depending on where energy prices go from here is going to be on the 30% unhedged?

And then, if I could sneak a third one in. Could you talk a little bit about your private label consumer tissue business in Europe? And give some details on the organic growth and margin there relative to your overall consumer tissue business? I'm sort of -- I guess I'm asking, is the business gaining volume share as consumers are trading down? And how does that impact the margin? Thank you.

Magnus Groth

Fredrik?

Fredrik Rystedt

Yes. I didn't actually get your second question there, but I'll start with the first one. I think it was regarding generally energy cost. And yes, they will be significantly higher. So, I think, I mentioned that already that if we look at input cost, they will be largely stable with the exception of energy, but the energy will increase significantly. So, it's not really spot rate related.

We don't know the spot rates, of course. The part that is unhedged. And that's roughly -- the unhedged portion is roughly about 30% you can say for electricity and for gas. It's actually you can say more for electricity, but if you include the regulated market, it's roughly to that extent. So, we are not speculating on the spot price. We hope it will stay low. But we can see that for the 70% that we have hedged in gas and electricity, prices are significantly higher.

And then, I mentioned that we had subsidies and one-offs. And you can -- we are not for commercial reasons exposing that number. We cannot do that. But you can get to kind of a lead if you look at the Q3 energy cost versus Q4, it's about SEK500 million or so lower in Q4 versus Q3. And of course, that was much better than we expected. Although prices were super high in Q3, it was still much better than we expected. And this is, of course, the subsidies and the one-offs that I was referring to, and they will not be there in Q1. So, in reality, we will see Q1 being much higher in terms of energy costs and, I also mentioned, indirect.

Magnus Groth

Maybe I could answer the question -- first question you had about price increases if we're giving any indication regarding the first quarter. And we're not. As you remember, Charles, we expected price increases going into Q4 from Q3 to be on a similar level of about 3.5% as we saw from Q2 to Q3, and then it turned out to be much higher. Of course, there will be a positive rollover effect, but -- so we will see price increases also in Q1, but we're not providing a number there.

And then, when it comes to private label, yes, we are seeing some downtrading still very much in the U.K. and, to some extent, in Latin America, but also in some other markets, and that is benefiting our private label division. It's interesting to see that even though we have raised prices more towards the retailers on the private label products than on our branded products just to a large extent, for cost reasons, so the cost impact on the private label products is much higher. The retailers have not raised prices on private label as much as unbranded. So that's a specific situation.

But that's what we're seeing, downtrading that we are picking up by having a tiered, good, better, best assortment with our brands, but also by having a strong position in private label.

Charles Eden

Thanks so much. I'll speak later.

Operator

The next question comes from Faham Baig from Credit Suisse.

Faham Baig

Hi, guys. Good morning. Thank you for the questions. A couple, one for Magnus and one for Fredrik, if that's okay. Magnus, can I -- I want to discuss the environment in China in as much detail as you can. Vinda, I think, reported a loss in Q4 after already seeing a sequential slowdown in Q3. And if I remember the discussion we had at Q3, I think the focus was going to turn on recovering profitability potentially at the expense of losing the Number One position. Could you discuss the operating environment in China, the pricing landscape, the excess supply potentially in the market that is impacting pricing ability there?

And then, secondly, housekeeping for Fredrik. Could you help us with the likely net interest cost for 2023, particularly as it stepped up in Q4? And if you can explain why the cash flow interest charge is much lower than the P&L, that would be good, as well as touching upon CapEx expected for 2023 as well as the tax rate? Thank you.

Magnus Groth

Okay. Thanks, Faham. So, I will talk to China as much as I feel -- I can as a Board member. Of course, Vinda is a listed separate company where Essity is the majority shareholder. Q4 was challenging because of partly the reopening of the markets with the high infection rates that had an impact on -- throughout the supply chains in our plants and also in our ability to supply products. So, there were a number of specific issues for the fourth quarter.

But having said that, Vinda did raise prices, not sufficiently. There is price competition, especially then on the basic grades, less so in the premium grades where Vinda is moving. And especially in the fourth quarter, it was a challenging environment because of an anticipation of lower pulp prices coming in 2023. So, it made it more difficult to raise prices.

Vinda has launched a number of new products in the premium part of consumer tissue to move away from areas that are and have been commoditized for a long time. And where there is an oversupply, the flat products and more into products like the 4D-Deco, the Embossed 4-layer products and, of course, the Tempo assortment. And this shift towards more premium products is successful and is ongoing, and we'll see more of that next year. And Vinda has continued a clear focus to raise prices going forward. So, that strategy hasn't changed.

I think that's as much as I can say about China and Vinda's performance and plans for now Faham. And I hand over to Fredrik for the housekeeping questions.

Fredrik Rystedt

Housekeeping? Thank you, Faham. I will try and do a bit of that. So, I think your first question related to the net interest cost and it's difficulty to give a forecast there and the reason is quite simply that we got a lot of floating. So, if you take according -- very much in line with our policy. But if you look at the proportions of fixed of our debt is roughly about 30%. And if you take floating, of course, obviously, then 70%. The average maturity, if you look at interest rate fixing is about 14 months or in that order of magnitude.

So, clearly, when you look at that, you can see that we are quite dependent when it comes to the finance net of the floating rate. And just to give you a bit of a proportion, if you take Q4 here, we had an average interest of 3.1%. And if you look at the corresponding period in 2021, we had 1.3%. So, it's been a very significant increase of the floating rates. Of course, we have the flexibility to go into more long term. We can do that. But of course, it will be much, much higher. As we kind of work our debt down a bit, then that's a positive impact. But of course, it's not expected to be lower than what you've seen here in Q4.

And so, when you come to CapEx, we're quite close to our estimate in 2022, as you have seen. It's always difficult to judge exactly with timing. When it comes to 2023, roughly about SEK8 billion or in that order of magnitude.

I think the final housekeeping question you had Faham was the tax rate. And here, it's always difficult to give an exact forecast of the reported rate, because that's impacted by all sorts of different movements back and forth. But structurally, if we just take our structural rate, is roughly between 24% and 25% is in that order of magnitude. That will vary a bit depending on country mix, et cetera, but roughly 24%, 25%. So that is what you should expect for 2023.

Faham Baig

Thank you very much.

Operator

The next question comes from Fulvio Cazzol from Berenberg.

Fulvio Cazzol

Yes, good morning, and thank you for taking my questions. The first one is on plans for 2023. I understood your comment during the call regarding the priority being the recovery of input costs and essentially margins. But we heard from one of your competitors yesterday signaling that they intend to raise A&P or advertising costs specifically by about 100 basis points for this year to invest behind innovation and growth in the brands. So, I was just wondering if you can sort of share what your intentions are in terms of planned investment levels this year versus last year, whether you also intend to invest a little bit more than you did last year?

And then, my second question is on the cost saving program, which had a pretty significant step-up in the fourth quarter. I think it was just over SEK1 billion. So, if you can just give some color on how you managed to unlock those savings so late in the year and how that should impact the next couple of quarters?

And then, my last question, if I could, is whether you can provide any sort of indicative inflation guidance for the all-in cost -- COGS, I should say, for 2023, given that you've got flat pulp, but still rising energy, still some inflation on labor charges? Should we expect mid-single-digit, high single-digit, low single-digit COGS inflation for 2023? So, any guidance there would be great. Thank you.

Magnus Groth

Okay. I can start with the A&P. Yes, we are planning on higher A&P levels. We're not giving the detailed guidance on the number of basis points, but we are planning to do more A&P this year, because we have a lot to talk about, and we're coming out from a very, very challenging year. So, expect a step-up in overall A&P investments for 2023.

Fredrik, do you want to talk about the cost savings programs and all-in COGS inflation?

Fredrik Rystedt

Yes. Let me start with the last question first. So, I can't really give you more guidance than I already did, Fulvio, because in essence, we can only kind of look at one quarter ahead. And as I have already mentioned there, we see stable -- largely, I should say, stable, the cost on input factors with the exception of energy, which will increase a lot. And of course, longer than a quarter is quite cumbersome. We can make all sorts of assumptions. But in the end, it's about adapting to the surrounding world with being agile in terms of pricing, et cetera. So, we can't give you much more guidance.

When it comes to the cost savings, I'm a bit unsure there what you actually mean, Fulvio, because, in fact, it's a bit tricky when you look at cost savings. We constantly save costs and become more efficient in general and Q4 was no exception. But if you look at the way we look at productivity, you will remember that we look at our cost saving or cost picture in terms of total productivity.

So, we look at it on a net basis, all the positive savings that we do and of course, also the negative impact, which comes exactly -- well, as an example, with inflation in maintenance or productivity loss from other factors in the surrounding world. It was actually quite negative for us, the total productivity in Q4. So, there was no savings. So, I'm a bit unsure what you're referring to.

Underneath the surface, the savings continued to be good in terms of material rationalization, in terms of yield improvement, in terms of how we become more efficient in the plants. But on a net basis, with all the kind of negatives that was -- that were existing in Q4, it was in total negative. So, I can't really answer your question there, Fulvio.

Fulvio Cazzol

Thank you for that. I think we can pick it up later. That's fine.

Fredrik Rystedt

No problem, Fulvio.

Fulvio Cazzol

Yes, thanks for that. Thank you.

Operator

The next question comes from Celine Pannuti from J.P. Morgan.

Celine Pannuti

Thank you. Good morning, everyone. My first question, in fact, is coming back on the cost inflation. So, you said that you expect stable input. I'm a bit surprised about this. So, excluding energy costs, what are your expectations for a different input cost and especially on top, the U.S. dollar has weakened. So, could you explain why we're not seeing lower input costs there? The second one is on -- and then, as well, can you -- on SG&A, I understand there is inflation in salary. What kind of inflation shall we be talking about? Are we -- is it a mid-single-digit rate that we should factor in?

And my second question is on pricing negotiation. I mean, first of all, why was it that you were able to get a better pricing in Q4? But importantly, you just had a pricing negotiation in the autumn. Are you able to right now go back to the table with the retailer for further pricing? Or are we expecting that further price increases to be later in the year? And what do we expect in terms of [indiscernible] the discussion to be tougher. You were mentioning cost -- sorry, delisting. Are we expecting some of that to persist in the first quarter? Thank you.

Magnus Groth

So, starting with the last question regarding the pricing environment, that has been very challenging all along, I would say. And in spite of this, we have been successful also protecting volumes and our Number One and Number Two positions. So, that will continue.

And the discussions and negotiations with some extent, negative impact on volumes that we had in the fourth quarter, we will see the positive impact now in the first quarter. So, we will have more pricing going forward.

And then, when it comes specifically to Health & Medical, that's just an ongoing process, because it takes longer, as we always say. So that will continue throughout the year.

And then, as Fredrik mentioned earlier, we believe that some of our competitors need to catch up and that this will provide a favorable pricing environment also going forward. And then, exactly how that comes into the different quarters this year, I can't really say.

So that's -- about the third question, price continued -- price increases, Fredrik, do you want to talk about cost inflation and…

Fredrik Rystedt

Yes, I can give that a shot, Celine. So, if we look at the different areas, starting with Health & Medical, we expect about stable input costs there. So, basically, higher cost when it comes to superabsorbent, bit lower cost when you look at nonwoven as an example, and roughly about similar for fluff as a -- sorry, a bit higher for fluff. So, overall, you can say roughly stable as far as we can see at this point of time.

When you take Consumer Goods, a bit more uncertain there. We expect -- and I'm talking sequentially now because if you compare the kind of Q1 a year ago, then of course, it will be a lot higher. But if you look at it sequentially, we expect slightly -- with the delays we have, slightly lower pulp costs. That's at least our hope and perhaps somewhat better currency conversion there, but it's a bit uncertain. So, largely stable, perhaps a bit down when it comes to Consumer Goods.

And when it comes to finally Professional Hygiene, stable raw materials, so basically for the same reason. So, it's difficult to give -- this is our best estimate at this time, of course, that can change.

When it comes to SG&A, that's a tricky question, I think, because it's a very varying situation in different countries. But generally, as you -- and of course, we just don't know that quite yet simply because there are all sorts of salary negotiations and other indirect cost negotiations ongoing. So, it's a bit difficult to actually forecast. But of course, I think it's quite clear that pretty much every company is facing significantly higher cost as we go along as inflation is high. Whether it's exactly single mid-digits or a bit higher than that, very difficult to say.

Did we cover all your questions, Celine? I'm not sure.

Operator

The next question comes from Karri Rinta from Handelsbanken.

Karri Rinta

Yes, thank you. Thanks for taking two questions. Firstly, about the -- your comments as we now move from raw material cost inflation to indirect cost inflation. So, can you discuss a little bit about the challenges in price management, i.e., raising prices between different divisions? I understand that it may be the easiest in Health & Medical because that's where the SG&A and salesforce is a bigger cost item rather than input costs. But maybe more specifically, how much more difficult will it be in consumer tissue and in Professional Hygiene to raise prices on this indirect cost inflation? That's my first question.

Magnus Groth

Yes. First of all, in general, we would like to talk about prices and price increases in relation to the value that we provide, of course, to consumers and to the retailers in building profitable shelves and also then digital shelves for them and making them competitive compared to their competitors and not just base it on cost, which -- but of course, that's easily what happens when you have the input cost explosion that we had last year. This year, I think it will be more about value and -- the value that we provide, which has been clearly visible with a relatively good service levels in most areas to competitors and our strong brands and strong innovation and so on. So, we're not always linking the need for price increases, of course, to the incoming costs.

Maybe I misheard when it came to Health & Medical, but this is the area where it takes the longest and actually it's most difficult to raise prices because of many contracts being -- having a three-year duration, but also because of the reimbursement schemes where countries need to change and increase the reimbursements. So that takes longer.

Momentum is picking up for Health & Medical, that's very good. So, it is a challenge, and it will take the coming year for them to catch up on margins and this goes then not only for the raw material, but also for the larger SG&A portion that they have compared to the other two business areas, as you mentioned. But this is something that they are working with very, very actively every day. So that's regarding pricing. Let's see going forward here.

We have learned now to raise prices and work with price management every quarter instead of maybe once per year in Professional Hygiene and Consumer Goods. So, I believe there is a good basis now for continuously discussing what needs to be done on pricing so that everybody is happy with their margins and their overall profit levels.

Fredrik, do you want to talk about the second question?

Fredrik Rystedt

Was there a second?

Magnus Groth

You asked the second question?

Karri Rinta

No, not yet. It's still coming. Just maybe a quick follow-up on this. Have you agreed on any one-year contract outside the Health & Medical for 2023? And could that be the reason...

Magnus Groth

I can't really answer that. I can't really answer that question.

Karri Rinta

Right. Fair enough. And then, the second question that I had was that the -- as Fredrik was commenting, you had negative overall savings in 2022 due to the very broad-based cost inflation, and now you're saying that SG&A, salary inflation, those are still heading higher. So, do you see any potential in sort of structural reduction in those items, i.e., to put it bluntly, headcount reduction in -- or maybe…

Magnus Groth

I mean, it's nothing new. Over the last couple of quarters, we've been saying that inflation is coming and we'll cover those costs as well through price increases and efficiency improvements. So, it's nothing that comes as a surprise. It's more visible in the Q4 numbers. But remember that some of those increase you saw there are kind of a little bit of one-time impacts that we now have incentive payouts that we haven't had for the last two years. We have a return of travel costs, for instance. But also, of course, more real underlying longer-term inflation. So, this is something we have been anticipating and we are working very hard not only with pricing, but also with cost efficiency throughout the company. So sure, it's something that we're talking about and working with every day.

Fredrik Rystedt

And maybe just to complement, perhaps even repeating what you just said, Magnus, there, but a few factors that has been -- or have been really impacting 2022, in general. So, the productivity, in much as we kind of have seen tight labor markets in the United States, especially in the early part of the year, the productivity and -- after post-COVID so to speak, we also had lots of new employees in our factories, particularly in the United States with lower productivity number as a consequence. So, of course, that is not expected to be worsened on the contrary, probably improved.

If you also make another kind of -- and you said it one-off, we have been facing a lot of surcharges also ourselves, energy surcharges that have come into on top. And this is also something that we, as in our way of looking at this actually include as a negative saving. Those are more market movements because all the competitors are faced with those. But of course, we don't expect them to increase. So that negative will not be increasing, so to speak.

I think, there is another factor also mentioned before, and that is that we have practically more or less zero bonuses in 2021, that was adding to the picture quite a lot, much more bonuses in 2022, and we don't expect that to be kind of a drag on. We hope bonuses will be there, of course, but not increasing as we saw in 2022.

And then, finally, what you don't see because of the net accounting that we do or the way we show this, is that underneath the surface, you see a lot of savings. So, all the ongoing projects are still generating sufficient or healthy savings, and we will continue that high pace also in '23. So, it will hopefully look better. But of course, obviously, there's going to be inflation, a lot of it also in '23.

Karri Rinta

All right. Thank you very much.

Operator

The next question comes from Karel Zoete from Kepler Cheuvreux.

Karel Zoete

Yes, good morning. Thanks for taking the questions. I have two questions. The first one is with regards to your expected volume trends during 2023, can you share anything with regards to when you expect things to improve a bit the quarter-after-quarter in -- is that already in Q1, for example? Is the China outlook is better? And related to that, the innovation agenda you have for 2023?

Then, the second question is on Latin America. Last year or 2020, you did a significant transaction, but the picture is a bit clouded beneath you exiting some baby business in Colombia. What has been the momentum in the LATAM business in the second half of the year? And what's the outlook for '23 for that part of the world? Thank you.

Magnus Groth

Okay. So, starting with the volume development, very difficult to say. But of course, as I mentioned, our categories are typically very, very stable. These are products and categories that consumers need every day of the year. And compared to all other FMCGs, including our competitors, we had a much better volume development during last year than all others, and we only had a dip in the fourth quarter. So, I think that was a quite strong performance.

Having said that, I would expect volumes to kind of normalize and to see some volume growth in the year ahead, of course, because it's -- even if we enter into a recession in some markets, that shouldn't have -- and historically, that hasn't had a big impact on volumes in our categories.

And China, I think there will be some instability here in the first or second quarter as China comes out of COVID. And what that means? I don't know. We'll just have to see, I think.

Latin America has been a huge success story over the year, and they just continue to raise prices, grow volumes, strong market share performance, really firing on all cylinders. So, really happy about Latin America and the performance there. We knew that the baby business that we had in Colombia through Ecuador was underperforming. And what we decided was to step out of the diaper part of the business, but we still have a substantial wipers -- baby wipers business that's growing in a very healthy way. So, overall, strong performance in Latin America and an area where we will focus and really invest going forward.

Karel Zoete

Okay. Thank you.

Operator

We will take the next question from Linus Larsson from SEB.

Linus Larsson

Yes, thanks a lot for taking my questions. May I just follow up on what we talked about previously on the call on other costs, which have continued to increase across all three divisions, but especially in Consumer Goods. Could you just maybe talk a bit about what you expect in the first quarter? Are we seeing any easing? Or are we expecting the same kind of cost or even higher costs on that other line for the group as a whole and maybe in particular on the Consumer Goods side?

Magnus Groth

Fredrik?

Fredrik Rystedt

Yes. I can give that a shot, Linus. It's a tough question to answer. If you look at -- just starting with the math a bit or the numbers we had in Q4, roughly about SEK2 billion higher cost in comparison to Q1 of '21. So, it's quite significant. And as I already mentioned, about -- more than SEK400 million was related to distribution, about SEK900 million or so was -- or a bit more was related to SG&A. And then, finally, the rest was what we discussed earlier when you come to kind of production cost productivity. And I mentioned there as an example, maintenance and energy surcharges.

If I try and speculate a bit -- and of course, part of that A&P, as I mentioned, the bonus increase that we saw here that was quite significant actually in Q4. Generally, we don't expect a lowering of the other cost line because of the kind of ongoing inflationary tendencies. We hope that we'll be able to have less impact from the COGS part, as I mentioned, as we improve -- continue to improve productivity and savings. When it comes to SG&A, I don't think it will be -- it will continue to remain high, actually.

So, overall, we don't expect any kind of big decrease, Linus. The surrounding world doesn't seem to be behaving in that fashion for the time being. But of course, we remain very, very eager to maintain a good cost structure, and we are doing just about everything to safeguard that, that happens.

Linus Larsson

That's clear. Many thanks for that clarification. And then, on the other other line, the one kind of the fourth division of yours, and you've had a big IT project ongoing. What's the update on that? And what's the other cost expected for full year 2023, please?

Magnus Groth

Okay. I can start with the IT project, which is our upgrade to SAP S/4HANA, where we launched successfully the pilot in May of this year in the Nordics and the Baltic countries. So, a good testing ground, seven countries, all our different businesses and also plants in several countries. And after expected teething problems, we are now designing the global rollout template and this is incurring some costs according to plans. And then, by the end of this year, beginning of next year, we expect to start the rollout in waves.

And of course, our expectation is and what we're seeing now from the new ways of working in the Nordics and in the Baltics is that this is a huge opportunity for efficiency improvements and automation once we have this in a big part of the group. In the short-term, there are some additional costs by running the old and the new systems in parallel. But we can see from the performance in the Nordics and Baltics that this will really help us once we start rolling out on the bigger markets that we're expecting to do next year.

Fredrik Rystedt

And I guess, maybe I can answer the other question you had there, Linus, and that was the other other sounds a bit odd, but it's group common cost, you can say. Among other, there we include this project, the EWoW project as we call it. And in 2022, we have SEK1.1 billion. We expect SEK1.2 billion roughly. So, you can deduct from that, that's typically salaries and a bit more spending on IT, et cetera. So roughly about SEK1.2 billion cost for 2023.

Linus Larsson

Great. And then, just one final comment on -- you talked about the downtrading. What was the mix impact in the fourth quarter? And do you have any guidance for the first quarter, please?

Magnus Groth

I believe, if I remember now correctly, we had positive mix throughout the year in all three business areas. So, really happy about that continued development. We have that now for several years and in more or less all our categories. So, we're still having a positive mix component.

And as we have stated, we don't believe that downtrading should have such a big negative impact and that it will also be temporary, because our categories are not such a big part of disposable income in general.

So -- but again, we are well set to manage any downtrading with broad offerings also catering to those customers to consumers, and that's also part of our innovation efforts for this year to launch more attractive assortments also in the good and better parts of the business.

So, Fredrik, anything else there?

Fredrik Rystedt

No. I think just to emphasize exactly what you said, mix is, of course, impacted by the downtrading, but overall positive. So, very good performance.

Linus Larsson

May I squeeze in one last question? It would be on the net interest cost. It was SEK570 million in the quarter. Is that a good proxy for the coming quarters?

Fredrik Rystedt

Yes. It should actually be there and then perhaps increase slightly, but thereabouts.

Linus Larsson

Thank you very much.

Operator

We will now take the next question from Victoria Nice from Societe Generale.

Victoria Nice

Hi, there. Thanks for the follow up. Just wanted to clarify when you say raw material levels sequentially similar in the first quarter, do you still mean an impact of 100% on profit and not lower? And then, raw material deflation should start in the second half of the year as it stands right now. Is that how you see it?

And then, just on energy costs, should we think about it bouncing back to over 30% impact on profit in the first quarter as subsidies and another one-off disappear? Thanks very much.

Fredrik Rystedt

Yes. Just not -- thanks for your questions, Victoria. I'm not 100% sure I understand, but let me just try and see -- try to answer, and please help me if I'm not answering. But what I was referring to before was the sequential, so stable in comparison to what we experienced in Q4 when it comes to price levels. So that was what I was referring to. If you take Q1 of '23 versus Q1 of '22, it will be significantly higher for all three business areas. So, that's what I meant.

And when it comes to energy, we haven't given a forecast there. But as I mentioned previously, you saw that quite significant decline between Q3 and Q4 of 2022. So, roughly about SEK500 million, and they were mainly, you can say, related to one-offs. Not only, there is also better spot prices, but a big part was actually related to one-offs and the subsidies, and they are not expected to be there in Q1. So, hence, we'll see much higher energy costs.

Operator

We will take the next question from Othmane Bricha from Bank of America.

Othmane Bricha

Thanks for taking my questions. I have three. First, on pricing in consumer tissue. You've mentioned competitors need to catch up on pricing, which would be favorable for your ability to raise prices. But also, you have some competitors which have had to stop production because of energy cost now coming back, which will put additional pressure on volumes and pricing. Can you give more color on the supply of consumer tissue in Q4? And how do these two factors balance out in your ability to further raise prices?

Magnus Groth

Yes. So that's correct that especially in the third quarter, we saw some competitors who were actually stopping production because of the high energy costs, and they are back producing. Supply-demand balance in Europe is quite good actually. So, we don't expect that to have a big negative impact on our pricing opportunities in going forward. So, from a balance point of view, we've had a fantastic momentum throughout last year, and we aim -- of course, it's always very challenging, but there's no real change in the market environment looking forward.

Othmane Bricha

Okay, thank you. Then on your cost savings, as looking to the next two quarters, if you can give some, should we expect your cost savings initiatives to be offset by inflation, meaning that you will continue to have negative savings?

Magnus Groth

Fredrik, you want to take that one?

Fredrik Rystedt

Yes, I can -- we don't give actually a forecast. I can't give you that overview. As I previously mentioned there, we have a high activity when it comes to cost savings underneath, but whether that will be kind of on a net basis, positive or not, I can't really say. We don't give that forecast.

Magnus Groth

If I could step in here, it's -- we're running over quite a lot, and I know I have some interviews coming up. So maybe we can take one last question. And then, unfortunately, it's great to have this discussion. But then, unfortunately, I think we have to close the conference.

Othmane Bricha

Okay. Maybe just a quick one. Do you intend to further exit any businesses in 2023?

Magnus Groth

Like with all, both acquisitions and divestments or exits, it's nothing that we really can give any indications on beforehand, and there's nothing substantial that we're planning for in that area.

Othmane Bricha

Okay, thank you.

Magnus Groth

So, operator, maybe we can have one last question.

Operator

We will now take the last question from Simen Aas from DNB Markets. Please go ahead.

Simen Aas

Yes. Hello. Good morning. So, just one quick one on gross margin. A competitor of yours reported figures yesterday and said that at current input costs, they expect a year-on-year improvement in gross margin every quarter in '23. How do you reflect on this? And is that -- this is the case for you as well? Thank you.

Magnus Groth

We don't give those types of forecasts. So, I can't really say anything more about that. We don't give the full year guidance and not on that detailed level.

Simen Aas

Okay. But just some comments on kind of how you think about the margin -- kind of the gross margin component?

Magnus Groth

Gross margin is, of course, one of our key metrics and something that's also very visible in our incentive schemes. So, it's something we're working with very actively, and it's the improved gross margins that gives us the ability to continue to invest in the brands and in growing market share and improving net margins. So, it's a key component for us and a high priority always to work on improving gross margins in every way we can.

Simen Aas

Okay. Thank you.

Josephine Edwall

Okay. So that was the final question, and you know where to find Johan Karlsson and Sandra Aberg for follow-up questions from the IR team. So, with this, we conclude today's conference. We wish you all a good day.

For further details see:

Essity AB (publ) (ESSYY) Q4 2022 Earnings Call Transcript