LNXSY - LANXESS Aktiengesellschaft (LNXSF) Q1 2023 Earnings Call Transcript

2023-05-15 13:04:10 ET

LANXESS Aktiengesellschaft (LNXSF)

Q1 2023 Earnings Conference Call

May 10, 2023 04:00 AM ET

Company Participants

Eva Frerker - Head, Investor Relations

Matthias Zachert - Chief Executive Officer

Michael Pontzen - Chief Financial Officer

Conference Call Participants

Andrew Stott - UBS

Jonathan Chung - Morgan Stanley

Martin Rödiger - Kepler Cheuvreux

Oliver Schwarz - Warburg Research

Chetan Udeshi - JPMorgan

Matthew Yates - Bank of America

Markus Mayer - Baader Bank

Jaideep Pandya - On Field Research

Andreas Heine - Stifel

Presentation

Operator

Ladies and gentlemen, thank you for standing by. Welcome and thank you for joining the LANXESS Conference Call. I would now like to turn the conference over to Eva Frerker, Head of Investor Relations. Please go ahead.

Eva Frerker

Thank you, Lucas. Good afternoon, ladies and gentlemen. I would also like to welcome you to our earnings call for the first quarter. As always in the beginning, I would like to ask you to take notice of our safe harbor statement.

With us today are as always Matthias Zachert, CEO; and Michael Pontzen, CFO at LANXESS. Matthias will start with a brief presentation and then we are happy to take your questions.

I'm handing over to Matthias, the floor is yours.

Matthias Zachert

Thank you, Eva, and welcome to everybody here on the LANXESS conference call. I move to page 4 of the presentation immediately to comment the key financial highlights and priorities. And I turn the attention to sales. Overall, I would say relatively stable thanks to price continuity and portfolio contribution. However, clearly seeing sluggish demand through modest overall industry demands especially in construction and E&E, but also severely impacted through destocking. This is weighing on EBITDA as well. We are in line with the guidance we've provided for Q1, but definitely compared to the peak quarter last year where a few business units had really phenomenal profitability like our additives business versus a high peak quarter we see a steep decline in volumes and driven by low demand across the regions especially Asia and Europe and accelerated by destocking.

As far as free cash flow is concerned after we've seen in Q4, already a decline in net working capital to sales. We've continued going in this direction. And, therefore, free cash flow turned positive and as far as net working capital to sales another two percentage points improvement.

And this will remain a focus for 2023, your statement is -- we want to see cash and we will deliver cash. A clear priority for 2023, we would most likely advance in this direction, working capital to sales going down in line with our forecast to somewhat 23% to sales. Should we accelerate further? I do not exclude that if demand remains modest that EBITDA we will do that at the expense of EBITDA. So priority cash is king.

Page number six, gives you the overall Q1 highlights as far as balance sheet cash and profitability is concerned. And of March, we received €1.7 billion in cash from the Advent LANXESS transaction that was completed. Free cash flow as I stated at €112 million. Normally, we have a €100 million, €200 million increase in working capital in Q1 and also in Q2. This is not visible this year. And despite that we think that especially in the second half, we will again decreased working capital as this reflects the seasonal pattern. EBITDA at €189 million. Definitely weak underlying demand in the markets being again fostered by destocking in many of our end industries.

We get feedback from customers that they are still living from inventories that they built up in course of 2021-2022 when supply chains were disrupted and they were overstocked. And now they basically sweat out inventories whilst, however, underlying consumption starts picking up. So production will most likely starts to be accelerated again from Q3 Q4 onwards. This is at least customer indication. As you can see on selling, prices we keep them relatively robust but of course there will be sequential decline also through pass-through contracts that we have put in place.

Now ladies and gentlemen, you've seen the cash proceeds of €1.7 billion that we've received on 1st of April. On the joint venture, I would like to say the following. There were several press releases and communications reached recently that are also sum up for USA service. The joint venture came into fruition into starting position 1st of April. The name of the joint venture, I think a good name has been found and communicated now. The joint venture this polymer champion will be called Envalior, I think strong name.

In the meantime the syndication has happened, and fortunately with top investors and international institution and banks. So this went pretty well. And what I would also like to stress, of course, we will comment on a quarterly basis on the financial results as we report them for the joint venture. And it's the clear intention that on a full year basis a detailed financial update will be given on the joint venture. And of course, we will orchestrate that together with our joint venture partner.

In our quarterly reportings, you will see Envalior being reported at equity. But what I would like to be very clear on its -- this is something where you should clearly see that this joint venture focuses on deleveraging.

As far as net income is concerned, that's not the priority. The net income will be impacted by purchase price accounting in the first two years. Of course, interests will weigh also on the net income and the more and more synergies accelerate and are implemented, the more and more you will see that this net income figure will then from red turn into black numbers.

So with this, I turn the attention to page number 6 in the reporting package, and here, we comment on the results of the overall group. You see on the left-hand side, prices up 6%. Portfolio does contribute but volumes are extremely soft, minus 14% is especially stemming from intermediates.

And here, we have a big exposure to -- in Inorganic Pigments to construction and construction is really ugly across the board. It's the first time that I see China construction negative. Europe is also extremely soft. It's not as bad in the United States. But overall, construction, which has an underlying positive trends, 2023 will definitely suffer.

The same holds true not equally pronounced for the E&E industry, and destocking puts a further acceleration on volumes decline. So, we compare with the peak quarter Q1 2022 but overall, first quarter 2023 is very soft. My assumption is Q1 and Q2 will be the trough quarter. This is somewhat a reflection of the toxic quarters Q3, Q4 last year where we produced at peak energy prices, peak raw materials that we are now selling off in the markets.

And this, of course, is not really leading to accelerated volumes customers wait until prices will decline with high stocks in their inventories, they would fully absorb their inventories and then start most likely accelerating buying again in third quarter onwards.

The only positive comment on overall financials in Q1 is we achieved the 10 percentage points with a utilization of 65%. This is extremely low. Our company has usually a breakeven around 75%. So with 65% now, we achieved 10%. Should we move to 75% 85%, I think we will come back to satisfactory and good earnings.

Page number 7 gives you an overview on free cash flow generation of the company. There were a few irritating reports that the company never reported free cash flow. This is not factual. On page 7, you see that 2015, 2016, 2017 reported free cash flow was delivered. The same for 2019, 2020, 2021 2022, I think all of us know how much energy accelerated and '22 raw material price inflation was coming on top of that. We have built net working capital 2021 and 2022 substantially. That should no longer be the case in 2023. So our expectation clearly, as we've communicated in November last year in our last Capital Markets Day event, free cash flow should clearly be visible in course of 2023 and Q1 gives you proof to the pudding.

Next to cash flow, being a priority for '23, deleverage is the priority. And I think this on page eight is visible. On the pro forma reported basis, you see that 3.8% went down to 2.8%, because of the cash proceeds stemming from the inclusion of our High-Performance Materials business in the joint venture and handing over 60% of shareholding to Advent.

So, deleveraging step number one no further cash flow generation is priority number two for the remainder of the year. And of course, as a third priority, but clearly this is the order of priority, deleveraging cash flow and then as much as possible stabilizing earnings. Let's come to the guidance '23.

So overall, economic environment, I think we've outlined. We are no different in our assumptions to the rest of the industry that has reported in the last two to three weeks. First half will be sluggish will be weak. Our assumption is that, China will come back into the order book more visibly in the second half. So we do assume that the global economy is going to pick up in the second half. The reason for this is customer feedback, many customers are conveying to us that the stocks will be more and more deployed in the second quarter and then from September, October onwards, ordering will pick up.

Second, what we see is that consumption is higher than underlying production. And we also see that stimulus impacts not only in China, but continued stimulus in the United States should ultimately tier for positive volume momentum. So, this is what we assume for the second half. And of course, this is embedded in our full year guidance.

We have won force majeure that hurts us in consumer protection, we lack chlorine. And originally, with March numbers we assume that this will come to an end in the second quarter. This will most likely hurt us until November this year. This will lead to around about €10 million, €20 million of EBITDA loss. So we have seen something like high single digit in Q1, but the remainder will be visible in the rest of the year. And with this, we come to our overall EBITDA outlook which is €850 million to €950 million, I think for -- as in the past midpoint is always a good orientation.

Q2 will not be much different from Q1. We assume that this would be again a soft quarter and as I stated before for me Q1 and Q2 will be the tough quarters in this downturn, but then we should see that momentum and volumes will start to improve again. Focus on our side, clearly on cash flow generation, CapEx will be at €400 million. And therefore we keep the guidance of full year numbers in place.

So, what we should also see more and more from second and especially third quarter onwards. The high-priced inventories will be sweated out. Of course, then look production at lower energy costs will start to kick in. And next to better momentum on volumes, of course, the lower level of input costs should benefit our P&L.

So this is it for the financial updates. I would like to conclude a few words on personal accounts. My contract was expanded or prolonged by the supervisory board yesterday. My clear priorities are and this was a conscious decision I talk to prolong. This was a conscious decision for LANXESS and not doing something else because I have a clear priority. I want to lead 2023 this company through a tough year and I expect it's going to be a tough year for the chemicals industry.

So in this tough year I will steer this company clearly with strong focus on the priorities I've mentioned. We found our portfolio 2024-2025 we want to bring this portfolio in this shape to higher margin and profitability levels. So that's the focus.

I think the transformation on the portfolio largely has been done. So 2024-2025 it’s financial delivery. And then 2026 we will see what will happen then. I think focus now is 2023, 2024 and 2025. And then the LANXESS team will strive for new targets.

Thank you so much for listening. And now we open the floor to your questions.

Question-and-Answer Session

Operator

Ladies and gentlemen, we will conduct a question-and-answer session. [Operator Instructions] The first questions come from Andrew Stott at UBS.

Andrew Stott

Yes. Thanks. Good afternoon. Simple question Matthias it really comes back to what you just said on your personal ambitions. So you want to grow beyond a tough year and deliver on that across the group. The awkward data point from today for me is Advanced Intermediates. So if you're now looking at the pre-2019 volume comparison, you're already well down in the end -- by the end of 2022 or 2019 in volume terms. And then you dropped another 23% in Q1. So the question is simple.

What's gone wrong in that division? Is it something structural in your end markets? Is it walking away from business because of your pricing strategy maybe it's a blend of those two things or something else? So I'd really appreciate an explanation of why volumes are sort of consistently so weak in that division and what the fix is? Thank you.

Matthias Zachert

Well, Andrew the answer is pretty simple. Advanced Intermediates consists of two business units. And the drag in Q1 very clearly is Inorganic Pigments. Inorganic Pigments in industry round about 55%, 60% construction and construction has imploded. You hear in Germany declines of 20%, 30%. So this is fierce.

And I've never seen construction being so soft globally. And in the last 20 years I've never seen construction being negative in China. China was always a strong volume machine. And now I reflect to 2029 Lehman. In Lehman crisis we saw Inorganic Pigments at EBITDA levels of around about 15%. This quarter the first time in Inorganic Pigments this business turned negative in EBITDA. So this was always a strong hold, always a cash machine, but the business needs volumes. And the volumes based on high inventories at customer level declines. On top of that we wanted to lower our inventory. So we declined in inventories in Q1 in pigments and therefore our utilization was simply as low as low can be. That will not continue like that. That's our assumption.

But if you want to have a simple answer on Advanced Intermediates it is construction driving Inorganic Pigments negative. That's the answer.

Andrew Stott

Thank you.

Matthias Zachert

You’re welcome. And of course we are looking at this now and we'll take measures to counteract. I mean this is business management responsibility. So we will not sit here and watch. We will definitely do everything to reposition this business. It is technology-wise a strong business with a good industrial cost curve.

It is a global leader. I mean, we have seen market shares globally of round about 35% 40%. So this is normally running end industry construction a good business, but they are currently heavily impacted. And therefore, we will do our best to counteract.

Operator

The next question is coming from Jonathan Chung at Morgan Stanley.

Jonathan Chung

Hi. Thanks for taking my questions. I have two please. Just the first one on order books dynamics. Could you comment a little bit on what you're seeing in terms of the order book in April and May, also the regional mix as well across divisions?

And also my second question is around, your consumer protection. Just want to understand, how much of the synergies have been delivered from the IFF integration and also the Emerald Kalama? Are you on track to deliver these synergies? Thanks.

Matthias Zachert

Yes. So I think, when you hear us talking about Q2 being similar to Q1. It's a reflection that in the order book, we don't see a big change in momentum. So therefore, we clearly stress that we don't see a rebound in China visible in Q2. All indications go for -- that will be visible in Q3 but not in Q2. So this is the current view on Q2.

As far as regions are concerned, we do see that China picks up in overall consumption. But as far as production value chains are concerned, they are not picking up yet, because here companies are sweating out inventories still.

As far as Europe is concerned, there is no big change in momentum. So we see, I think, -- and you have seen that in the reporting season, everybody continues being soft also in outlook for Europe whilst, North America appears to remain relatively resilient and stable.

As far as synergies are concerned, most of the EKC synergies have been implemented. As far as IFF is concerned, we are in the process of implementing synergies. We have seen by now around about €10 million of the announced savings.

But of course also here, Consumer Protection, Disinfection Business, Personal Care et cetera these end-industries, surprisingly, also have turned soft. This is a reflection of consumer spending going down being softer. So also here we see a variety of end-industries that we see volumes not growing like in the past few years, but stagnating in some areas are even declining.

And therefore, here, we see that overall consumer protection volume-wise is relatively robust with only two percentage points, volume decline, but volumes are declining compared to additives where volumes declined by around about 15% and a steep decline in intermediates where volumes declined by more than 20% and this especially stemming from construction industry and pigments. I think this gives you more clarity on Q2 and order book. Next question, please.

Operator

The next question is coming from Martin Rödiger at Kepler Cheuvreux.

Martin Rödiger

Yes. Thanks and good afternoon. I have two questions please. Firstly on the cash flow, with your guidance on EBITDA and CapEx for this year you will end up with a cash conversion rate of between 53% and 58% in 2023. In former times you targeted a cash conversion rate of above 60%. Is this still a realistic target for the midterm?

And the second question is on, discontinued earnings. Matthias, thanks for your comments regarding the net profit of your joint venture with Advent for the next foreseeable future and the drag from PPA, amortization charges and high interest expenses.

But when I look at your discontinued earnings, which is still your previous or recent engineered plastics business that is certainly not affected from these two items. So I would wonder, is the minus €54 million loss in discontinued earnings due to write-downs or anything else? Thanks.

Matthias Zachert

Well, I take first question. Michael, will take the second one. 60% cash flow conversion relative numbers, I think conveyed a few years ago. Let's not go for relative numbers. Let's go for free cash flow delivery. We want to deliver free cash flow this year, whatever it takes. And I think indication here has been given to you, what we want to achieve. And therefore let's not talk relative I would like to deliver absolute numbers free cash in course of 2023. Michael?

Michael Pontzen

Hello, everybody, as well from my side. Martin, with regards to the reported discontinued operations earnings, you're right that is as reported in the past. But there is an effect in that number and it is as well affecting our, let's say development in net financial debt and we discuss it with one or the other with you.

We had or we were in a position as we in Q1, already received the payment for the transaction that we already were in a position to pay around €55 million on tax-related numbers. And that number had to be as well reflected in the P&L obviously. And that number you find in the tax statement of the discontinued operations. And that is why the result is so negatively.

Still of course, I mean if you take a look on the operational business with regards to our business and then in respect of the former HPM business, you can imagine that the former HPM business was doing – was not doing well either and that was already the case in Q4.

While talking about discontinued operation and some accounting issue, I would as well like to address what Matthias said as well before. So you should expect from now on in Q2 starting that the effects from the net income – change in net income in the joint venture we reported in the financial result. And at least on short-term you should not expect the positive contribution, given the capital structure and the purchase price allocation effect in the joint venture.

With regards then to the value of the joint venture and we had the discussion before that is not necessarily reflected then by the book value of our assets but rather by the structure, which we negotiated in terms of the signing and the closing of the transaction and we have a slide in the deck at the end of the presentation. So I hope that gives an answer to your question, Martin.

Martin Rödiger

Thank you, Michael.

Operator

The next question is coming from Oliver Schwarz at Warburg Research.

Oliver Schwarz

Thank you for taking my questions. First of all, I'd like to ask about the still ongoing force majeure and the chlorine production of the supplier. It seems like that situation has started in August and according to your view is dragging on until November, this year which, is more than 12 months. I mean we have large-scale chlorine production since more than 100 years now. This shouldn't be a rocket science. What is holding your supplier back to come let's say on stream with chloride production in a decent period of time, what took them so long? What was the problem here? Can you share that with us?

Matthias Zachert

Yes, I can only be aggregated. This is not rocket science. I fully agree with what you are saying. And normally this was never an issue. My understanding is that this is not technology related. It's purely engineering related. Some wrong pipes were installed and that was realized after it was started last year.

It started reasonably well. And then it was interrupted again. And then again force majeure was announced in Q1. I understand now that equipment is being ordered. And in today's world equipment doesn't come from one day to the next day. It takes a few weeks and months and then it needs to be replaced. This is happening, as we speak. But with the delivery times and installations the indication that we have been provided, with will last until most likely November this year, and then the production will be switched on again. That's basically, the background to it. So, no technology, but simply engineering delays.

Oliver Schwarz

Thank you for clearing that up. Second question, would be on your outlook especially on Q2. Obviously, we no longer expect any adverse impact from winter storms in the US. And it seems based on your full year guidance on the impact of the chlorine situation, the financial impact of that should be lower already in Q2. So, given that the inventory adjustment at customers also petering off. What is basically, holding you back in Q2 on a sequential basis when compared to Q1 to thus exceed Q1 results.

A – Matthias Zachert

What I don't see largely by the industry that everybody is applauding Q2, volume momentum. So we see softness in the Q2, in most of the end industries except one or two, like agro industry is doing well. So, there is no overall strong commentary from chemical peers on first half and also on Q2. And therefore, when we are not seeing that order books are starting to gain momentum, there is no reason to pretend that we are seeing a rebound in the global economy, we don't.

And as I stressed before, our customers still have stocks on hand and they are sweating that out. And we are also -- I mean as I stated before, we want to lower our inventories. We've now clearly in -- if we want to get down on inventories to sale, we have to produce less than we sell and that will lead to idle costs and we take that. We absorb that in the P&L. But the focus is now on cash generation. Therefore, priority is getting inventories down. That this leads to burdening the P&L is the name of the game.

But the focus as I stated before, is in this company for 2023 one, deleverage and we take -- took a big stride in that direction. Second, cash flow and third, priority is earnings. We want to stabilize them as much as possible, but priority one and priority two are clearly the ones that we are going for.

Oliver Schwarz

Thank you so much.

A – Matthias Zachert

You’re welcome.

Operator

The next question has come from Chetan Udeshi at JPMorgan.

Chetan Udeshi

Yes. Hi. Thanks. My question was Matthias you mentioned, previously that you were running at 65% or so utilization rate. And I was just curious, how does that compare to the previous trough that LANXESS has had in the past? Now of course, I know the portfolio has changed over the years. So, I'm just sort of trying to assess, how do we -- how do that number compared to what might have been the trough, in the past cycles for LANXESS.

And just related to that, I was just surprised a little bit that the inventory value on an absolute basis did not change from Q4 to Q1, because I would have thought given the utilizations are so low, we might have seen some sort of drawdown from the inventory. So maybe can you highlight, why the inventory was steady. And I guess as you said, the aim now is to bring the inventory down from Q2 onwards. But just in terms of, why Q1 did not see that happen already? Thank you.

A – Matthias Zachert

Well, thank you for both questions. Let me address both of them. As far as utilization is concerned, I think the last time we saw severe decline in utilization was in Q1, Q2 2009 after Lehman crash. And I recall something like, we fell to something like 70% utilization, but this is now 13 14 years ago. So I don't know, if transcripts still exists. But that's my recollection. We had something like 70% utilization. And my collection was we were double digit in EBITDA and not -- and close to €200 million. But you might look back into the JPMorgan notes that most likely one of your brilliant colleagues has written at that point in time. But that's my humble recollection of 2009.

Now, as far as inventory is concerned, normally see in Q1 is stock up by €100 million, €200 million on inventories because in second and third quarter, we do normally have the planned maintenance. So, we always ramp up in Q1 inventories. That's the seasonal pattern you've seen over the last decades.

This has not happened in Q1 this year. We basically -- wherever we have no standstills in our plant maintenance in Q2, we knocked inventories down. Where we have stand stores in Q2, we produced some more inventories. By and large you therefore see that inventories in nominal terms are at par versus Q4, which is definitely a strong improvement and that's the reflection on cash flow generation in Q1.

Chetan Udeshi

Clear. Thank you.

Matthias Zachert

You're welcome. Next question please.

Operator

The next question is coming from Matthew Yates at the Bank of America.

Matthew Yates

Hi, afternoon everyone. A couple of questions please. You've giving specific guidance for EBITDA for the year, but just indicated to expect a loss on the financial line from the residual nylon contribution. Can I push you to be a bit more specific on the magnitude of that loss?

Have you worked out at this point what the PPA impact will be and a rough idea of the financial expense going through the business is difficult to try and firm that up a bit. Obviously LANXESS shareholders still have to care given the residual stake?

And then maybe from the -- post the closing of this deal, is there a broader plan to right-size the organization given the smaller scope? I know companies report central costs in different ways and some is on one line and other companies go through divisions, but it strikes me that €200 million is quite a big expense in the context of a group the size of LANXESS.

So, now that you've completed that nylon deal, is there any opportunity there for a new kind of cost-cutting plan to address some of the central costs, or are those more structural than I appreciate?

Matthias Zachert

Well, Matthew, as far as net income concerned from the joint venture, we will start commenting on this in Q2. So, we are not in a position today to make comments, we have clarity but according to legal constraints we have to abide to them. And once this is reported in net income, it's been commented from our end. But definitely PPA for business where that is valued on the DSM side €3.7 billion; on our side, €2.4 billion.

You can assume that PPA is meaningful. It's substantial even though it's not cash, but technical non-cash in nature, but it will be a significant amount impacting net income and definitely you are well advised if you want to minimize taxation that you play here according to legal books. What is possible you take into consideration. So that is as far as PPA is concerned.

Then on Recon, I mean €100 million -- €200 million we don't guide. I think the guidance for Recon is somewhat €170 million. And you need to take into consideration that our organization to a very large extent will provide services to the joint venture for the next two to three years. And what happens then in two to three years, we will definitely not -- if there's nothing else coming up, sit on idle costs. That's not the approach we are going to take. But please take into consideration that our organization and the countries, but predominantly in group service functions will support a €4 billion group -- polymer group going forward for the next two to three years.

Matthew Yates

Thanks so much.

Matthias Zachert

Next question please.

Operator

The next question is coming from Markus Mayer at Baader Bank.

Markus Mayer

Yes, good afternoon, Matthias, Michael and Eva. Two questions from my side. The first one is on what you said that high-priced inventory should be sweated out. Maybe I missed it, but can you give us an indication on the inventory devaluation effects and also the idle costs you had in Q1? That's my first question. And then the second question is on IFFMC. Any kind of flavor in terms of run rate on pricing would be helpful to see how this business has developed? Yes, that would be helpful. Thank you.

Matthias Zachert

Well, thank you for your comments. Michael will take up the first one on devals. I will briefly address IFF. So, IFF basically stabilized in terms of earnings by and large. As far as contribution is concerned, we saw that energy-related industry did well. But the biocides suffered and also our biocides in LANXESS forming without microbial control suffered. And we saw disinfection in China suffering. So, here farmers are simply very modest currently and expensing. So we see that. So that's basically why IFF by and large did not profitability-wise contribute stronger. We need to see a rebound here on the underlying volume and demand as well. And now, Michael, devals.

Michael Pontzen

Markus, thanks for the question. Yes, as we no longer have that huge fluctuation with regard to the let's say input cost base and then price base, we don't have truly revels in our inventories as long as we keep the prices on good levels, which we basically do and that is what you find in our overall sales bridge, yes? So there are no devals. We have to make sure not to put too much or additional inventories into the house in stock and that will cause idle cost. We're not quantifying them, but you can imagine, if you're short some €260 million, €270 million top line on volume, you are missing a good chunk of EBITDA and therefore carrying the idle cost and you can do your math your own, because what you finally earn with the missing volume is a very high number, yes? And that is why EBITDA is in fact declining that sharply year-over-year.

Matthias Zachert

Okay. Thank you.

Matthias Zachert

You’re welcome. So next question please.

Operator

The next question is coming from Jaideep Pandya from On Field Research.

Jaideep Pandya

Thanks. First of all, well done to the whole team on free cash flow. Second the -- if I start with the first question on the outlook for 2023, could you give us some color in terms of what sort of volume growth are you baking in, in your second half versus first half comment, given you highlighted that you expect some sort of recovery. So, it would be interesting to see that. Second question is -- sorry to ask this, but coming back to the HPM JV, when you take a bit of a step back and you entered into negotiations for consolidation, how much analysis or emphasis was given on the capacity growth in China. So, I just want to understand, do you expect the cycle to be long for the next three years. And therefore, more need for cost cutting, because one of your keen players has obviously announced a shutdown in caprolactam in Europe. So, I'm just asking in that context.

And lastly, I know this is an annoying question, but just from a bromine point of view is there going to be an impact from lower bromine prices this year on the results, or this is not a problem and this is not an issue and your prices are longer term. And therefore, we shouldn't really focus on the bromine changes in China. Thanks a lot.

Matthias Zachert

Well, thank you, Jaideep. Let's start with second half. Please recall that, we have seen in the second half last year, volume declines. So in the industry by and large volumes were down in Q3 between 5 and 10 percentage points and in Q4 10 to 15 percentage points. That was the average plant I think you had seen by peers in last year's quarterly statement.

So we enter the second half, with a comparable lower base. Our assumption is that, we will see compared to the second half last year, the volume increase single digits which however is compared to the first half where we see 10% to 20% declines in volumes, the major stabilization and rebound. So I hope that helps.

Your second question, I mean, there is definitely a competitor that has publicly decided to step out of capro production that should not be negative for the joint venture. It should be positive, because we have -- I mean, our caprolactam is one of the biggest in Europe. We have here the real stronghold. And therefore, that has always been a strong backbone and it should remain a strong backbone because with the incremental compound capacity that the joint venture has of course the caprolactam should always be at 100% utilization which is definitely beneficial. And our customers always love to have the backward integration because it offers stability and also quality assurance.

Now third point, the bromine question. I mean, falling bromine prices is -- the indicator on falling bromine prices is not a sudden increase in supply. That's not the case. The falling bromine prices in China on the spot markets are a derivative of simply strong decline in demand and this is hurting everybody. If you have long-term contracts or short-term contracts it doesn't matter.

If you have a steep decline in volumes, you simply have lower production and lower earnings. A competitor of us Albemarle reported this morning, and stated the same thing. Demand is soft in construction and E&E. And the decline in their profitability in the comparable segments was 48%. So you see that, simply here the industry is suffering from a dramatic decline in demand.

And if I've stated Albemarle this is wrong, I wanted to refer to ICL that came out with numbers today or yesterday. And of course, ICL is one of our peers in the flame-retardant markets and that gives you an indication that simply here the demand worldwide for flame retardants and E&E -- for flame retardants and construction and E&E is simply very soft.

Construction and E&E, we saw for the last few years always in a very, very good momentum. They will turn back to growth, because construction is nearly needed in Continental Europe. This is known everywhere. And I think everybody sees also that China will more and more focus on stabilizing and improving construction in China as well.

But in this quarter and also in Q4, we saw that markets that normally had volume growth for decades and construction suddenly started to stagnate and now going to declining modes. And I think that will be still a theme for the second quarter and then only from Q3, Q4 starting to stabilize and grow again. With this, I think Jaideep all your questions should be answered.

Jaideep Pandya

Yes. Thank you, Matthias.

Matthias Zachert

Thank you.

Operator

[Operator Instructions] The next question comes from Andreas Heine at Stifel.

Andreas Heine

Yes. Thanks for squeezing me in. I have actually three questions. The first is on Advanced Industrial Intermediates. Well, in normal times, which we don't have. This business was very resilient, but I obviously noticed that that is not what we can talk about in this destocking environment. But if you get back to the second half and destocking is over and we look to raw material prices, which oil price related came down a lot and the gas price as well. Is there any reason why this business should not get back to 20% EBITDA margins exactly? Has anything structurally changed that that will not happen?

And the second question is on the guidance, where you said that the midpoint is the right point to look at. But just a little bit less than what the former guidance was saying on par this last year. Is this guidance baking in what you mentioned that the prior iteration on cash means that the P&L might be a hit to a degree due to the prioritization of net working capital coming down? So is there already a buffer baked into that, or would that come on top?

And lastly destocking. It is all over the place, but do you see differences by end markets or by your business lines if it comes to destocking coming earlier to an end? And where you see some improvement already, or is that across the board as bad in Q2 as it was in Q1? Thank you.

Matthias Zachert

Well, let me address them one-by-one. Advanced Industrial Intermediates, I mean, I don't want to comment on the 20%, I think in the last November Capital Markets Day event, we stated 16% to 18% in a normal economic environment. Normal economic environment means no impact through geopolitical tensions and wars. I mean, the energy prices that has broken out after the Russian aggression war and mass murder approach, this is something that definitely impacts the European industry.

And Advanced Industrial Intermediates is a German-based production base to a large extent that this business currently is suffering, is not surprising but the big drag in the division is currently Inorganic Pigments.

If you reflect that Inorganic Pigments was negative -- double-digit negative, however, low in the teens in Q1 you can reflect that the remaining business unit was not that bad, but we need to address Inorganic Pigments. Inorganic Pigments we deployed at inventory. So, we dramatically declined utilization to get rid of inventories that fostered the negative financial performance, but it's something that we simply have decided to prioritize.

And this leads me to the second question. Midpoint guidance is €900 million. I stated before this embeds round about 23% of net working capital to sales. If the industry rebounds then we can sweat out inventories. If the industry only modestly rebounds then we will continue with lower production. And then we have more idle costs and that of course impacts profitability.

So, we clearly stated cash this year as a second priority, and clearly prioritized vis-à-vis EBITDA, which is an artificial profit indicator and that should give you clarity on what our assumptions are rebound in the second half. We have analytics behind that and we've provided you arguments for that why we believe in this. We've given you an indication what our working capital assumption for the year is, but if we accelerate and deploy more working capital then, of course, we have to pay the price for it.

And on destocking, well, we have not seen big momentum in April and order book in May. So, the feedback of our customers are like everybody else, like we are doing by the way, we are sweating out inventories. And this is across industries with one or two exceptions. Agro is strong. But even in consumer-related industries, companies are destocking, because they have built up plenty of stocks last year when value chains were disrupted. Everybody has safety stocks and everybody is sweating out safety stock. So we see this as a, overall, a theme for Q1 but still for Q2. Next?

Andreas Heine

Thank you, Matthias.

Matthias Zachert

You are welcome. Next question please.

Operator

There are no further questions at this time. For closing comments, I hand back to the speakers.

Matthias Zachert

Well, thank you very much for your participation. We all look forward to seeing you this quarter, next quarter on roadshows. Take good care. All the best. Bye, bye from Cologne.

Operator

Ladies and gentlemen, this concludes the LANXESS' conference call. Thank you for joining and have a pleasant day. Goodbye.

For further details see:

LANXESS Aktiengesellschaft (LNXSF) Q1 2023 Earnings Call Transcript