ABB Management Discusses Q1 2014 Results - Earnings Call Transcript

Apr.29.14 | About: ABB LTD. (ABB)

ABB (NYSE:ABB)

Q1 2014 Earnings Call

April 29, 2014 9:00 am ET

Executives

Ulrich Spiesshofer - Chief Executive Officer

Eric Elzvik - Chief Financial Officer and Executive Vice President

Analysts

Mark Troman - BofA Merrill Lynch, Research Division

Andreas P. Willi - JP Morgan Chase & Co, Research Division

Simon Toennessen - Crédit Suisse AG, Research Division

Jeffrey T. Sprague - Vertical Research Partners, LLC

Olivier Esnou - Exane BNP Paribas, Research Division

Ben Uglow - Morgan Stanley, Research Division

Fredric Stahl - UBS Investment Bank, Research Division

James Moore - Redburn Partners LLP, Research Division

Andreas Brock - Nordea Markets, Research Division

Operator

Ladies and gentlemen, good morning, and good afternoon. Welcome to the ABB First Quarter 2014 Results Analyst and Investors Conference Call. I'm Stephanie, the Chorus Call operator. [Operator Instructions] The conference is being recorded. [Operator Instructions]

At this time, it's my pleasure to turn over to Mr. Ulrich Spiesshofer, CEO. Please go ahead, sir.

Ulrich Spiesshofer

Thank you very much, Stephanie. Welcome, and good afternoon, ladies and gentlemen. Thank you for joining us today to discuss our first quarter 2014 results. With me is Eric Elzvik, our CFO. As always, my remarks refer to the presentation that you can download from our website at abb.com.

Before we get started, let me refer you to the important notices on Page 2, the Safe Harbor statement, regarding any forward-looking statements made in the presentation.

With that said, let's move on to Chart #3. Ladies and gentlemen, I can quickly summarize the first quarter in just a couple of sentences. We turned in a steady performance across the large majority of our businesses, a performance that has been overshadowed by the disappointment of another poor performance in the Power Systems division. We have now a clearer plan to bring PS back to health, and with ABB, remains well positioned to achieve long-term profitable growth and attractive shareholder returns.

Let me review the highlights of the quarter in a little bit more detail. We delivered basically stable orders and revenues in a mixed environment, as our broad early-cycle exposure helped offset the continuing weakness in the late-cycle and utility-related parts of the business. For example, base orders were up 3%, led by low-voltage products in Discrete Automation and Motion divisions, and they're higher in all 3 of our largest markets, the U.S., China and Germany, which is encouraging. Excluding Power Systems, operational EBITDA margins were steady, if you adjust for the dilutive effect of the Power-One acquisition in Discrete Automation and Motion, which was expected.

Cost savings are, again, in line with our guidance of 3% to 5% of cost of sales, which further helped our earnings. Cash improved significantly as we gained some clear benefits from the many initiatives we are executing to improve net working capital management. So, all in all, we have satisfactory performance in 4 of the 5 businesses. However, as I said, we are disappointed in the poor Power Systems performance. I will come back to that in more detail shortly.

I would like to emphasize upfront that the new leadership team in PS under Claudio Facchin, has completed their comprehensive review of the business during the last 3 months and have launched a step change program in the division. This builds on but goes also well beyond the previously announced strategic realignment. A number of key decisions have ready been taken, and there will be more to come over the next few quarters. It's important to be clear that the transformation of PS will take longer than originally expected, but we are confident that the outcome will be a strong, profitable and competitive business.

Finally, in line with our strategy to continuously optimize the portfolio and to focus driving profitable growth in our core automation and power businesses, we are selling the heating, ventilation and air-conditioning business from Thomas & Betts and, as we announced yesterday, the Power Solutions business from Power-One. Both transactions are expected to close in the second quarter.

Let us move to Chart #4. There, you find the key figures for the quarter. First, let me point out that as we promised after Q4, we will, from now on, give you a proper like-for-like comparison on orders and revenues that adjust for changes in business scope. This is in response to the feedback from many of you after the Q4 results that such a comparison would allow you to make a more meaningful analysis of our year-over-year performance. So we have responded to your input and will provide this information both at the group and divisional level from hereon.

Looking at the top line, I already mentioned the stability in orders and revenues, which is a reflection of both our good early-cycle exposure and our balanced geographic scope. That, in turn, is the benefit we have gained from our acquisitions over the past 2 years, primarily in the North American market. The group's operational EBITDA performance has been hit by Power Systems, as I said. That has masked the otherwise decent performance in most of the businesses. Net income is correspondingly lower. We believe that's the cash performance in the quarter, even if it still shows the seasonal Q1 buildup of working capital.

The division has done a great job in implementing operational excellence initiatives related to better networking capital management across the company, and we see a large potential to keep driving those gains in the future. Eric will provide some color on that in a few minutes.

So if you move on to Slide #5, this shows our orders we have received in the regions in the first quarter. It's really interesting. Automation outperformed power in most markets, which you would expect given the current muted spending by utilities on power transmission. An exception to that pattern is the Americas, where we saw increased power orders in the U.S. and Canada, both from utility and industry customers. Base orders were also up in the U.S. on a like-for-like basis.

Brazil was down across most of the business, but the decrease was the biggest in large Process Automation orders.

Europe remains a mixed bag. Germany is flat versus a year ago, but that mainly reflects the large rail order we took there last year. Base orders in Germany are close to 10%, up both in automation and power. The U.K. increased dramatically, thanks to a large rail-related power order. Italy remains weak, but this is being driven primarily by a difficult comparison in power. Automation orders were slightly higher in the quarter.

In Asia, base orders in China are higher, led by a double-digit improvement in automation. We are well positioned in automation in China where the government's growth initiatives around productivity, efficiency and environmental improvement are exactly where ABB plan -- plays. Large orders in China were lower compared with the same quarter last year when we won a large transformer contract. India turned in a strong performance in the quarter, with a 31% order increase and a strong double-digit increase in base orders.

Finally, we saw growth in the Middle East and Africa as the increase in oil and gas orders more than offset lower power demand.

So turning to Slide #6, here's an overview of the key divisional data. I won't bore you going through all of the data, but let me note a couple of highlights. Discrete Automation and Motion delivered a strong order increase, mainly in the early cycle businesses. Revenues on a like-for-like basis were lower, reflecting the lower opening order backlog in the large motors and generators business, which is later in the cycle. The operational EBITDA margin adjusted for Power-One acquisition was basically unchanged from the previous year.

We have guided that Power-One will face a choppy period for some quarters as the solar PV market adjusts to changing demand in subsidy patterns, but we remain optimistic about this business in the long term. Low Voltage Products showed solid execution on revenues in the quarter, which is also reflected in their nicely improved profitability. Process Automation reported a record operational EBITDA margin on really good execution of system project out of the backlog, mainly in oil and gas and in marine. The lack of large orders was felt on the orders line. Tendering activity is positive in several parts of this business, but it's too early to talk about significant recovery in areas such as mining or metals.

Power Products continues to deliver industry-leading profitability and had a really solid performance, and it still stays a high-performance business with a great track record. Power Systems shows a loss in the quarter, and as I said, I will describe what is happening there in a minute and get to more detail after Eric has spoken to you about some of the financials.

So over to you, Eric, for Slide 7.

Eric Elzvik

Thank you, Ulrich. We have the operational EBITDA on Chart #7. So if you start with the net savings, we were at positive, about $25 million, for the quarter. The price pressure was lower in dollars in the quarter, mainly reflecting the reduction in revenues in power business, where is also where we see most of the price pressure traditionally. Similarly, the reduced volumes in power had some impact on the sourcing savings, while we continue to execute very well in the operational excellence programs. Cost saving remained in line with our revision; to take out an equivalent of 3% to 5% of cost of goods sold on a yearly basis.

As we said before, price pressure in Power Products has stabilized. That level is close to the long-term average for this business. We can manage this through productivity improvements, supply chain measures, new product launches, channel actions, et cetera, so we have returned to what I will now call business as usual on the pricing side.

On costs, we continue to achieve our cost savings of 3% to 5%, as I said before, on an annual basis. The volume effects were slightly negative in the quarter as revenue declined. This was further impacted by a small increase in the selling and R&D investments as we are now starting to drive our organic growth initiatives.

Mix was slightly positive, mainly due to the early cycle growth in LP and DM, while the project margins were negative, mainly, of course, from Power Systems and Ulrich will come back to that later, as we said before.

The other is a sum up of a lot of different impacts from mergers and acquisitions, some change in the G&A cost, ForEx impacts, provisions and gains and losses on sale of business, which is part of the normal business.

So let's move to Chart 8, where we have the cash flow. As you know, cash flow in the first quarter is typically impacted by seasonal effects ramping up the working capital at the beginning of the year for revenue increase in the second quarter. Nevertheless, and taking this into consideration, the total cash improved by approximately $280 million cash flow level, excluding the negative impact of Power Systems. It's about $80 million from the other divisions, about $100 million in corporate and $100 million negative in Power System versus a year ago. A lot of work is going on to address the net working capital with many small initiatives done on the lower level to really change the processes around inventories and receivables.

If you look at this on divisional level and take the example of Discrete Automation and Motion, we generated more than $100 million additional cash compared to the same quarter last year. They are doing a very good job in working to balance the seasonal effects out. One of the net working capital projects was launched last year in Europe and it spans the whole value chain for supplies to customers and have already resulted in a significant reduction in inventory and the very substantial decrease also in lead times, which, of course, helps us to be faster to the customers. And this methodology and way of working is now also being rolled out in markets outside Europe, in DM and then later in other divisions.

So, with those local initiatives, I remain very confident that we have still a lot of potential to improve on net working capital, and thus, the cash flow. And we are aiming to get back into our guiding range of 11% to 14% of net working capital later this year.

And with this, let me turn it back to Ulrich.

Ulrich Spiesshofer

Thanks, Eric. So I would like to update you on, starting on Slide 9, on the progress that we are making with the 3 focus areas in profitable growth, business-led collaboration and relentless execution, and give you some realized examples what we are really doing quarter-by-quarter there in terms of concrete actions. So this is not a PowerPoint initiative. This is really very, very concrete activities that we're doing every day, and it is driving really our efforts.

Starting with profitable growth, we use a framework of penetration, innovation and expansion to organize and drive our efforts in this area. Actions are being taken to increase penetration, including our continued push on the sale of Power Solutions, for example, into the industrial sector, so that basically means selling more of our product businesses on the power side and standardized Power Systems activities into an industrial sector. Well over 1/3 of our volumes in power are already going into industry, but there is more we can do in this area; for example, transformers and switchgear for offshore oil and gas, power distribution and equipment and systems used in marine and rail. The order we won in the quarter to upgrade a rail network in the U.K. is a great example for that opportunity that we have here.

On innovation, I hope that a lot of you visited to the HANNOVER FAIR recently. You will have seen at our stand our new IEC 5 high-efficiency industrial motors that are really ready to capture the opportunities from the upcoming changes to motor efficiency standards in Europe and are, in fact, ahead of the European standard requirements, and we are the only the company that has that scale across the entire range available to offer. These motors have basically about a 20% more energy efficiency compared to the current standard, and they do this with our permanent magnet that use rare earths. So that makes them really more economical and more sustainable, and also, from a supply chain perspective, much more attractive to people to choose.

When we look at expansion as a growth driver, we will continue expanding through M&A, we will continue to expanding through organic investments, but we will also do more on partnerships. And this -- one of the partnerships that we announced in the quarter is a partnership with Philips, which, I think, is a great example because it basically allows the customers out there to link the ABB's automation software and commercial buildings with Philips' connected lighting system. The result is a much more energy efficient way to control systems, such as the lighting, the appliance, the building access, the HVAC in the building. So it's really a solution where 2 large global players come together to bring significant value to customers, and that really allows us to have an even stronger position in the building automation market together with a strong partner.

If you move on to Page 10, that shows some examples, what we call business-led collaboration. Really there, we bring the power of ABB together. The rail upgrade order we won in Sweden this quarter is a great example, where we are basically delivering products and services from multiple divisions to allow the customer to provide more reliable, more efficient, more convenient and more comfortable rail service. In fact, this train will become a benchmark in terms of efficiency and reliability without having to build a new train, going it through a retrofit.

Our recent footprint announcement on manufacturing and R&D and supply chain in China and Brazil are further examples how we can increase productivity and bring more value to customers by having cross-divisional product development, logistics assembly and service in a single location. In Xiamen, at the East Coast of China, we're setting up a new development and production hub for Low Voltage Products and Power Products, which will really give us a base for further improved productivity and optimize our footprint, further growing local R&D in Low Voltage Products and in the power businesses. And the total investment is about USD 300 million over the next couple of years.

In Brazil, we announced previously a $200 million expansion program. We're expanding our technology development and production capacity to serve increasing domestic demand from industries such as petrochem, carbon paper, oil and gas and mining, as well as energy. So typical, the customers in Brazil have tended to buy electrical equipment from multiple suppliers. With this new factory, we can really locally act as a single vendor for locally engineered, designed, assembled, packaged and tested and delivered equipment. That's really a great opportunity for our customers and for us. The products include switchgear drives, distribution equipment, automation system, as well as the assembly of combined substations that we do there, both for the industrial and for the power field.

And then joint channel development is another key opportunity, an area that we are working now very, very aggressively in ABB. For example, we have teamed up in parts of our Power and Low Voltage business in China, bringing a very attractive combined product load offering to channel partners, not only in the Tier 1, but also in Tier 2 and Tier 3 cities all across China, which will be a major growth engine for us to come in the future.

On Chart 11, I show -- we show you a couple of examples and where we -- what we are doing in terms of relentless execution to make ABB even more robust and successful. We have demonstrated a good track record and cost takeout over the past several years, and we will continue this for a long time to come.

One way we will do this is to expand our productivity improvement initiatives beyond the shop floor and into the engineering and sales offices, where we have room to optimize support process and tools that will make our front-end people more effective and give them more time to spend with the customer. So we can apply Lean/Six Sigma principles not only in the supply chain, but also in the administrative functions.

Eric has already mentioned one of the net working capital initiatives underway in the Discrete Automation and Motion division, and we are driving this very hard throughout the entire company to really become much better than we already are in that field of capital efficiency. This is part of our long-term commitment to deliver an attractive cash return on investment, one of our main value-creation metrics moving forward.

Turning to Chart 12, let me now take you through the Power Systems results and the step change in the division that will take us to long-term consistent and profitable growth. As we said when we announced the new management team in Power Systems late last year, Claudio and his team were given a mandate to really reevaluate the business in a fundamental way, do a proper assessment and come up with clear priorities in the portfolio.

They looked at the projects, the business portfolio, the execution, the people, the business model across all parts of the division. This review has now concluded and the team has established a clear set of focus areas. They have already started to implement a number of changes and there will be more to come as we move through the year.

So what is really different this time compared to what we announced previously? This step change program goes well beyond our previously announced initiatives. We are building on this, what we have already done, and have benefited from those learnings. But the changes have not been fast and deep enough, so we are changing that now.

For example, we have decided, with immediate effect, to stop bidding on engineering, procurement and construction contracts in solar PV, power generation projects effective immediately. We have made some additional changes to management, and we are bringing in external experts, a company that you might know, and its partners, who have a solid track record in restructuring and in the offshoring business to really help us drive the step change program with additional program management and senior change management experience that complements Claudio's team that we have in place.

We have also broadened the scope of our assessment, and we are looking beyond the offshore wind connection business and the low-value substation business and reassessing the way we go to market across the entire portfolio.

In the short term, we expect the division's results to remain under pressure. We still have significant execution risk on some critical projects, working through the low-margin order backlog. We'll also continue to pressure margins for several quarters to come.

So while the Power Systems transformation will take longer than originally expected, we remain confident that the outcome will be a strong, profitable and competitive business.

So coming to the end, turning to Chart #13, as a summary. So first, on the quarter, look, I would like to remind you, with all the noise around Power Systems, 4 of our 5 divisions remain on track and delivered steady top line results in a mixed environment and operational earnings that are close to last year's level.

Power Systems, disappointed, but we have launched a step change program to deepen the transformation of the business and bring it back to profitability and growth levels that will offer an attractive return on investment.

The cash performance improved, and we will continue to drive this key value-creation metric over the rest of the year.

Finally, we continued our disciplined portfolio, growing in line with our strategy, to focus on driving profitable growth in our core automation and power businesses.

As for the outlook, we don't see a meaningful change in the outlook and keep pace with the guidance that we had at the end of the first quarter last year. Early cycle indicators are generally positive. The uncertainty remains on the timing of recovery in later-cycle industries and utility transmission spend.

So, with all that, I would like to conclude my remarks. Thank you very much for your attention, and open the line to questions.

Question-and-Answer Session

Operator

[Operator Instructions] The first question is from Mr. Mark Troman from Bank of America Merrill Lynch.

Mark Troman - BofA Merrill Lynch, Research Division

Okay. Firstly, Power Systems, I'm just trying to understand what really went wrong in the quarter. It looks to be related, obviously, to the offshore wind primarily and to some of the solar EPC. In Q4, we understood that it was obviously a weather-related issue. So maybe you could just elaborate what exactly -- or what list of issues went wrong in Q1. And if they are project issues, how far are we through the real problem projects that took the numbers down so significantly? So that would be question number one. And then also, just a follow-up on Power Systems; given step change, which I guess is the latest initiative, when we look at your order rates, in 2011, it was $9 billion; 2012, roughly $8 billion; '13, $6 billion; and you did $1.5 billion or so in Q1. Would you expect -- I don't expect any sort of formal guidance, but would you expect that given the scope of this business and where you want to be, $6 billion is roughly the floor or could it be a lot lower than that?

Ulrich Spiesshofer

Okay. So, Mark, thanks for your questions. I think they're all good questions. Looking at first quarter, we had operational weakness in EPC projects, both project-related but also some basic execution topics. We are working now. We're going deep into the processes that we have in place to really make sure we're doing it in the right way. We had, again, some delays on some of the projects, but it's not only the project business that we are looking now at. We really look at the entire business portfolio and make sure that the underlying quality and the margin quality of this business is being ramped up across the entire range of all the activities. So that -- and you have our commitment, that we're going to do this in the right way and that we're going to take the time that it needs to fix this, so that we are working on it with urgency, but we're not getting into a hectic mode. We will take the time that is needed to work that one through in the time to come. Now, on the step change piece, a couple of more comments on that one; look, we have now a holistic program that is broken down from the overall divisional level down to every operating entity, and we need to make sure that we drive really deep and very hard and very swiftly all the change actions that we have in place across the entire program. The external resources that we bring in have not only the program management capability, but also the technical and the system-related experience in driving large-scale system projects. So I'm confident that we're going to get this going in the right direction. Now, on the order rate, look, if we -- we always said that we're going to do this, the order intake, in a disciplined way in this business. So we will not go out of all of a sudden and take crazy orders just to fill the backlog. On the other hand, we are competitive in quite some areas of this portfolio and we are taking new orders. So, at the moment, I'm confident that we will get additional orders in, in this business and get it to a scale that justifies us being in there, but I will not guide you on any more details on any numbers for the full year.

Mark Troman - BofA Merrill Lynch, Research Division

Okay. No, that's fine. And so just to -- what went wrong in Q1, was it a mixture of technical, human error, managerial sort of mistakes, or a whole mix of those or...

Ulrich Spiesshofer

Well, it was all of the above. We basically had some normal technical execution issues. We had some project timing issue, project management issue, coordination issues that we need to get better at. We had some human errors in there, and that's what we really need to work on.

Operator

The next question is from Mr. Andreas Willi from JPMorgan.

Andreas P. Willi - JP Morgan Chase & Co, Research Division

My first question is on working capital, which is also partly related to Power Systems. You obviously had a buildup last year. You just said you aim to be within your target range. That's kind of a 4%, 5% reduction in working capital, which is kind of $2 billion, so a big number. Maybe you could give us a little bit more around that. Is that what you target for this year, a $2 billion working capital reduction? And how confident are you? And how much of it is visible things in Power Systems that you know once customers start paying you or you start delivering, that this will unwind? Or how risky is this also tied to execution risks in general? And the second question is on SG&A, which ramped up quite a bit year-on-year. Maybe you could highlight a bit more by division, where you're significantly increasing investments, whether this is what we should expect for the rest of the year and how long until we see a payback, so until it becomes kind of self-paying in terms of these investments?

Ulrich Spiesshofer

Look, Andreas, thank you very much for both questions. I will let Eric answer you in a second more in detail on the numbers on that one. Both areas are areas that are higher on the radar screen. So both on the working capital side and the SG&A side, we are doing quite a bit of work, as Eric has ready explained before, to make sure we really drive this in a hard way. On the SG&A side there, there are special effects in the first quarter, and Eric will now run you through both topics.

Eric Elzvik

Yes, so the net working capital, you are right that in the first quarter, we are quite a few percentage points away from the range of 11% to 14%. But on a full year basis, we ended last year close to 15%. So it's basically 1 percentage point down at the year-end measure. And that, with all the efforts we have running, we have a reasonably good level of confidence that we can get that down by the end of the year. Obviously, the biggest outlier today is Power Systems. You have seen this negative cash flow again in the quarter in Power Systems, and that is a lot related to large payments on some of the challenging and difficult projects we have. So we need to get some of that cash coming back to ABB, and there is a lot of that outstanding before the end of the year. And if you ask me whether there is a risk in that, I would say there is, of course, always a risk, whether that will come this year or next. The delivery schedules are being drawn out in time somewhat on those projects, so there is clearly a risk there. But the long-term target is to take the Power Systems net working capital level down substantially. And they are way above where they should be long term. So that is one of the biggest potentials we have. But all in all, it should mean we have reasonable confidence that we should be able to get to the 14% by the end of the year. On SG&A, you have seen it has gone up in total. Part of that has to do, obviously, with the acquisitions. And most of the investments are going into Low Voltage and into Discrete, where we are building the sales and service platform. We're obviously more careful in the slower-growing areas in power, even though we have also made some additional investments there. Process Automation, we are also quite careful with the expansion on all the cost level, given that the revenues are supported by a smaller backlog in Process Automation. And the increase also includes some onetime items in terms of all the restructuring and write-offs and so on, which is in the numbers. So it is not fully the percent you see on the key data table, if you look at it on a like-for-like basis, but it is still an increase.

Operator

Next question from Simon Toennessen from Crédit Suisse.

Simon Toennessen - Crédit Suisse AG, Research Division

My first question, just on Power Systems, I mean, you commented on the -- on what happened and the delays. I've just got an idea in terms of timing. If I'm right, this DolWin1 contract was supposed to be operational last year, and obviously, we're seeing further delays regarding that contract. What's sort of the latest we could expect to see any charges? Just to get an idea of the time line. I know it's difficult, but what -- when are you expecting to finish actually the installation of this contract? And when is this contract now supposed to be done? I mean, you had $300 million of charges for a contract size of around $700 million. Just in theory, how much more charges could you theoretically accrue just from that contract? And where are you with regards to the DolWin 2 contract? I think that's, what, $1 billion in size and it's supposed to be operational, I think, next year and whether -- is there any risk that you might actually see further delays with regards to that? And the second question is just on the solar project in Power Systems. Could you give us any kind of scale indication? And also, how much orders have you won in 2013, just to get an idea of what the order impact could be in 2014 if you're not bidding on those anymore? I think you had quite a few contracts in Canada, if I'm right. And if you actually won some of those contracts last year, I mean, you had already a 9% to 12% margin target at this time. So could I be right assuming that any new contracts in those areas have actually been in that margin range or is that wrong? If you could just comment on that.

Ulrich Spiesshofer

Look, Simon, thanks for your questions. Look, I'm not in the business of doing speculation, and on the DolWin1 and on the DolWin2, I can assure you we have the project teams on high alert. We have weekly reviews there. It goes up all to the executive committee level weekly reviews on this project. We definitely have intent to get the DolWin1 done between this year, and the DolWin2 is out a little bit further. So to speculate on that one, whether we're going to make it or not, I don't want to do that, but I can assure you it has a completely different level of attention now compared to previously, that we really make sure that it is going in the right way, and that's all I can kind of say in that direction. We really need to make sure that all of these projects, and that's really the difference now also in terms of how we run the program here, is we make it extremely operational and personal; that people understand, everybody understands what he personally has to contribute, what the deadline is, what the milestone is, what the expected input is and what people need to do, and I'm highly confident that with that effort, we will have an improved performance pattern. On the solar project, yes, look, we took about $200 million to $300 million last year in additional solar projects. I will not speculate on why, on the previous management, this was done. And I will just tell you that effective now, we have decided that we will not take any further orders. So we need to flush through the backlog and get that executed in the proper way. It's primarily projects in Canada and South Africa, which make up the majority of the backlog, and I'm confident that going into the next year, most of that backlog is behind us and we have then a business where we don't let that drag down anymore.

Operator

Next question from Jeffrey Sprague from Vertical Research Partners.

Jeffrey T. Sprague - Vertical Research Partners, LLC

A couple of questions, again, back on PS. Where are you at currently on ABB product content on what -- on the projects that you're booking? Have you materially changed the complexion of what you're putting in the backlog today?

Ulrich Spiesshofer

Look, we have a certain ambition level for ABB content, and for competitive reasons, we are not disclosing the precise number, but this is something that we absolutely have in there. They're -- so they're easy connects between the Power Systems and the Power Products business that we have in there historically, both about $1 billion that went from Power Systems into Power Products on an annual base. And we aim to still have a good and ABB content going forward in the Power Systems projects that we have, either under execution or that we are taking as new projects.

Eric Elzvik

And we are clearly reducing rapidly the backlog which has very low content. And obviously, the content is also different. It's not one number and we have everywhere to be the same content. Some are very high content, some are a little bit lower, and so it depends on the cost of margin mix in those contents numbers. But I think we can say clearly that we have implemented what was the intention, to increase the content step-by-step over time.

Ulrich Spiesshofer

Absolutely.

Jeffrey T. Sprague - Vertical Research Partners, LLC

Has there been any change in the way you're compensating business leaders, project managers, senior sales engineers in this business? Either you'll still go with the changes or the step function change as your announcement today?

Ulrich Spiesshofer

Look, we are not disclosing too many details, but I can tell you the following. For the project leaders of this large project, $1 billion project, yes, we have changed the compensation model, that we basically tie certain incentives to milestones achievement to make sure that we're going to achieve what the customer wants to achieve and what the individual is that he wants to achieve is closely tied, not only in the performance, but also in the incentive management.

Jeffrey T. Sprague - Vertical Research Partners, LLC

And then just finally from me, could you elaborate a little bit more on the strength in U.S. power orders that you saw? What was the nature of that demand, project-related or industrial?

Ulrich Spiesshofer

Look, you see at the moment in the U.S. quite a bit of activity, both on the industrial and on the power side. And on the industrial side, the reindustrialization of some of the process industries, that's really an opportunity for us because every new process plant -- look, the new process plants are now built in the Pittsburgh area. They need better power supply and we are participating in that very actively. There is -- I'll give you another example. One of the largest projects that ABB has under execution outside of the U.S. is the Sadara project with more than a $20 billion project volume. At the moment in the U.S., in the -- by the way, $20 billion project volume, not for ABB, it's the total project. In the U.S., we have a couple of dozen of very large projects coming in on the industrial side, and we've enforced focus on industrial powers sales. We really want to participate on that one, and that's a significant part of the upswing that you have seen in the first quarter.

Operator

Next question from Mr. Olivier Esnou, Exane BNP Paribas.

Olivier Esnou - Exane BNP Paribas, Research Division

I'd like to come back to Power Systems. In terms of having an idea of where you are right now in the execution of this solar and problematic offshore wind contract, is there a way you can give us an idea of the -- I don't know, the weighted average percentage of completion here? So that -- you mentioned, first stage of completion as being a key incentive driver from now on. I'd like to know approximately if those projects are 30% through, 60% or a broad number to get a sense and maybe where you would like them to be by year-end. Second question here is can you give us an idea, if you take solar and offshore wind power connection again, roughly what percentage of Power Systems sales that represents today? And third question, you mentioned earlier in the call with press today that you want to fix PS and bring it back to now, good level of performance and you were relating to the way they did it with the robotics business, which was a great turnaround. That was done on a purely organic basis at the time. It did not involve buying or selling asset as far as I remember. Are we in a similar situation here for PS? It's purely ABB with the current portfolio not just to fix, or in your broader strategic thinking, it could involve inorganic moves?

Ulrich Spiesshofer

Okay, look, I'll take the last one first and then I'll hand over to Eric on that one. Look, if you look at the pattern on how we fixed the robotics business, it was pretty simple. We said we need to understand better what really differentiates us with the customer. So we basically started selling robots with a purpose, by putting standard application on the robot instead of selling large-scale systems projects as the main aim to go forward. We made sure we commercialize the standard solutions. We package them in the right way. We standardize the technical design, and with that, we limited significantly the risk. We also took the product part and did a very strong upstart and footprint optimization and migration piece. And then we strengthened the project execution: front end, sales, engineering and program management activities, and it altogether led to a nice turnaround. And pretty much that's the pattern that we're going to use on PS in turning it around. Look, as on all other parts of the portfolio in ABB, we will not speculate on any inorganic activities, so there's no comment on that one. And on 2 previous questions, we have this information for internal management purposes, but we don't disclose it externally.

Olivier Esnou - Exane BNP Paribas, Research Division

Okay. So if I can just follow on, you're saying that broadly, what you did in robotics, you're thinking somehow replicable to Power Systems today is your approach?

Ulrich Spiesshofer

Absolutely.

Operator

Next question from Mr. Ben Uglow from Morgan Stanley.

Ben Uglow - Morgan Stanley, Research Division

I've got a few questions. First of all, I guess, I'm going to try in a different way to try to figure out what we should think of in terms of profitability in patents. I understand that you don't want to commit to anything, but from our standpoint, from a modeling standpoint, it's a little bit of a black box. Is it reasonable within what you see today, and I understand that this is going to be an ongoing risk, but is it reasonable to assume that on a quarterly basis, you're not going to be back at breakeven over the course of 2014? Either we should -- that we should continue to expect ongoing charges and potential negative results over the remainder of the year? So that was question number one. Question number two relates to Power-One. Based on the information given in the press release and the comments on Discrete Automation margin x Power-One, it looks like that has gone into a loss, an EBITDA loss, which I calculated at about $11 million. Is that correct? And what's driving the loss beyond simply our producer's revenue going down? And how long will it take to get that one turned around in the Discrete Automation division? And then the third question, which, I guess, is more strategic and you may or may not be willing to comment, in theory, hypothetically, is Alstom definitely not interested in power-generation assets? Pardon me, I think I said Alstom. Is ABB not interested in power-generation assets?

Ulrich Spiesshofer

This was a Freudian and I take that...

Ben Uglow - Morgan Stanley, Research Division

It was very Freudian.

Ulrich Spiesshofer

Look, the last one, no comment. As we said earlier today, there is no comment. On Power-One, we don't disclose details on Power-One on that one. When we bought Power-One, you might remember we bought Power-One, which was about a $1 billion business for $1 billion. We got $250 million cash with it. So we paid, on a net base, about $750 million. Now we're getting $120 million roughly out of the divestiture, so we have $630 million. Having paid that for a #2 position in solar inverters, I think, is a really good deal. We are very happy that the Power Solutions part, which has nothing to do with solar, has now found a good home with the new owners. I mean there's a good fit between the company that's acquiring and has it, would be good for everybody involved. In terms of the profitability, when we bought Power-One, we said we expect a couple of softer years in line with the market development. That's what we are experiencing at the moment. I'm still confident that with, a, our industrial base, and b, with the market coming back up, we will get where we want to be. So altogether, I'm quite happy with the integration of Power-One. I'm particularly happy that Eric and his team were able to do such a swift progress on the divestiture of it. So that's what I have on Power-One. And, Eric, do you want to take the first one on the...

Eric Elzvik

On the margin side? Yes. This is, of course, a key question, Ben, and I understand why you are putting this question. Let me repeat what we said already in February. We are driving towards to try to get into the 9% to 12% range at the end of the strategic period, means end of next year. That statement remains unchanged. We are driving as much as we can to keep this business running. Can we tell you that there will not be more charges? No, we cannot. Unfortunately, the way those projects are going, so obviously the ambition is to drive improvements during the rest of this year. But we will not give you any specific guidance on the year.

Ben Uglow - Morgan Stanley, Research Division

Look, guys, but -- so we should assume that whatever improvement happens from here is basically going to be quite gradual and we are looking at a pretty protracted and drawn-out process, is that fair?

Ulrich Spiesshofer

Look, what we're going to do, Ben, we're going to take the time that it takes to fix this business. We did exactly the same on the robotics side. We did not get nervous about it. We did not compromise quality of improvement with short-term hypothetical gains that later on disappear again. This time, we will really do this right. We're going to take the amount of quarters that we need, but I can tell you we are aiming very strongly to avoid to have a loss situation for the entire year in this business. We are really aiming very, very strongly not to have that. And then, in September 9, when we get together on the Capital Markets Day, I'm quite confident that we are in a position to see a little bit better there, or significantly better, the future and then we can update you on targets, Ben, specifically. Look, what we are telling you is the following: give us time to fundamentally fix this business. We will do this right, like we have done in the robotics side. We have put in the right resources. I am confident in Claudio. I know that you might be not happy that you can't put it on the spreadsheet, but I'd rather tell you that in honesty than coming up with something that later on we can't keep.

Operator

Next question from Mr. Fredric Stahl from UBS.

Fredric Stahl - UBS Investment Bank, Research Division

It's Fredric here at UBS. Could I ask you, on the cost savings and the price declines and the dynamics there, is it fair to assume that the -- both the price down and your cost savings is -- are correlated to input cost changes? That's question number one. And question number two, if you ignore your raw material costs, is it also fair that your behavior will -- when prices decline less, is it also fair that you will reduce your cost take out and focus more on growth, i.e. invest a bit more, take that leeway to invest a bit more in the business? Is that a fair assumption?

Eric Elzvik

Yes, Fredric, as I said, look, quite a few quarters through, there is some correlation between the 2, that it is sometimes more difficult to get cost reductions when prices are more stable. And I think that's a little bit what we are seeing now, even though this is only a quarter and we are aiming to stay, of course, well within our 3% to 5% for the full year. And you have also seen, in some of the other parts of the, BRICS that we are indeed investing a bit more into sales and other areas already today.

Ulrich Spiesshofer

And just to clarify one point, Fredric, and you might not remember it, on the cost-reduction side, we exclude the impact of exchange rated commodities. So if copper goes down, the direct copper purchases that we have is out. And that's just something that I want you to reflect when you look at our cost-reduction consideration because we had some changes in exchange rate of commodity prices throughout the beginning of this year, but this is something that we net out when we talk about cost reduction.

Fredric Stahl - UBS Investment Bank, Research Division

Okay, very good. And then maybe some housekeeping question. Could you give us an idea how big -- the companies that you're disposing of now, how big are the revenues?

Eric Elzvik

I believe that has been disclosed, and for Power Solutions, that was announced yesterday. It's about $250 million per year. And for the HVAC business, it's about the same, a little bit bigger. It is…

Ulrich Spiesshofer

It's the same, okay?

Operator

Next question from Mr. James Moore from Redburn Partners.

James Moore - Redburn Partners LLP, Research Division

My questions center on the PS margin as well. I was going to ask what you expect for the full year, but I heard your clear answer to Ben that you're really not happy to give that. So maybe I could just step back and try and understand the result today a bit better in PS. Now, you said on the bridge that you've got a $129-ish million of project costs. I've seen the majority of that is in PS. I'm guessing $110 million. If you can give me the right number, that would be great. Look, I want to be clear about what exactly that is. Is that solar EPC, offshore wind and substations? And secondly, if we then strip that number out, it looks like what we might call a clean operational pre-charge EBITDA margin is around the 5.5% number? And that's been running at 8% or so. And so my other question is it's clear that even if we exclude that, there is a step-down in the profitability. And I'd really like to be clear in my mind about what that step-down is, excluding the project charges. I guess it's the operational gearing effect of the falling revenues at the reset. But I just want to be clear in my mind what's in the underlying profit margin step-down in PS and what is in the charges? That would be very helpful.

Ulrich Spiesshofer

Look, James, I have to disappoint you. We will not give you all the granularity that you want. But in terms of the levers that you mentioned, they are right. We have our revenue decline that mirrors the lower opening backlog from last year, which is significant and that finds naturally its home on the cost iterations and reflecting in a lower margin. And the second one is all of the above that you said; the wind piece, the solar piece is in the project, but we also have on the daily execution side some cost pressures on operational execution and that altogether use it in the impact that we have seen and that we have shown.

James Moore - Redburn Partners LLP, Research Division

And just so I'm clear in my mind, when you think about the outstanding risks for the back 9 months of the year, is it that you see the risks as more being in project charges or underlying profitability?

Ulrich Spiesshofer

If you would look at the historic performance of the business, it is definitely more related to the project-related charges. We naturally work very hard to avoid all of them going forward, but it would be fair to anticipate that if something comes, it's probably the likelihood that it comes from the project side is higher.

James Moore - Redburn Partners LLP, Research Division

And if I might, just one more. The underlying profitability, if it is that sort 5.5% picture, can you, in any way, say if you think that's a low point?

Ulrich Spiesshofer

Look, James, I will not comment on that one and I will not speculate whether your hypothetical calculation is right or wrong. Can we take one more question?

Operator

The last question for today is from Mr. Andreas Brock from Nordea.

Andreas Brock - Nordea Markets, Research Division

So just last question then. When I think about Process Automation, you mentioned that the -- I mean, the margin has done pretty well the last couple of quarters, and it feels like you're executing an order backlog there, which should probably have pretty good margins. In addition, you've taken down costs. Would it be fair to assume that the order backlog, the future margins in that division are lower than they have been for the last couple of years?

Ulrich Spiesshofer

Look, we don't want to speculate on the quality of the order backlog in a single division, but what I can tell you is that Veli-Matti and his team has done a wonderful job over the last couple of quarters, and quite frankly, throughout the entire financial crisis situation, delivering really good execution. He has had bases on the project side. No risk -- no major hits that would have derailed us, and the day-to-day operation and execution in this business is good. He has his costs firmly under control. He adjusted the costs in line with the revenue and the backlog development. So I'm confident that Veli-Matti will continue to deliver good operational results.

Eric Elzvik

And there's also some mix effects in there as we stepped out of some really low-margin business there in that business.

Andreas Brock - Nordea Markets, Research Division

Fair enough. So it could be some structural improvement as well?

Eric Elzvik

Yes.

Ulrich Spiesshofer

Okay, with that one said, it was the last question. Thank you very much to all of you for attending. We will talk with you again either individually, in the roadshow or in the summer results when we come out with the Q2.

Let me remind you, Capital Markets Day, 9th of September, it's still valid. Okay, with that, thank you very much and have a nice day.

Operator

Ladies and gentlemen, the conference is now over. Thank you for choosing Chorus Call, and thank you for participating in the conference. You may now disconnect your lines. Goodbye.

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