Friedrich Lauer - Head of Investor Relations
Bodo Uebber - CFO
Adam Jonas - Morgan Stanley
Avaneesh Acquilla - UBS
Steve Power - The Wall Street Journal
Christian Breichtspringer - Oppenheimer
Kieran Mon - Odie
Arndt Ellinghorst - Credit Suisse
Johan Grabe - Enskilda Securities
Tim Everett – Amber Capital
Philippe Houchois – JP Morgan
DaimlerChrysler (DAI) Q3 2007 Earnings Call October 25, 2007 8:15 AM ET
Good afternoon from Stuttgart. This is Friedrich Lauer from Daimler Investor Relations. On behalf of Daimler, I would like to welcome you on both the telephone and the Internet to our third quarter results presentation.
Bodo Uebber, a member of the Board of Management of Daimler, responsible for finance and Daimler Financial Services, will start with a presentation and we'll be happy to take your questions afterwards.
Before we start, I have the usual administrative details. The interim report and the slides to accompany this conference call are available on our Internet site.
I would like to remind you that this teleconference is governed by the Safe Harbor wording that you will find in our published results documents. Please note that our presentations contain forward-looking statements that reflect management's current views with respect to future events. These forward-looking statements can be identified by expressions such as assume, anticipate, believe, estimate, expect, intend, may, plan, project and should. Such statements are subject to risks and uncertainties, examples of which are in the Safe Harbor wording in our documents and are also described in our most recent Form 20-F under the heading Risk Factors.
If the assumptions underlying any of these statements prove incorrect, then actual results may be materially different from those expressed or implied by such statements. Forward-looking statements speak only as to the date on which they are made.
Now I would like to hand over the conference to Bodo Uebber.
Ladies and gentlemen, good afternoon and thank you very much for attending our third quarter results conference call. We are pleased to present our quarterly results for the first time under our new name Daimler.
In that context, we also decided to rename our reporting segments in order to sharpen the positioning of our brands. We now have the following segment names: Mercedes-Benz Cars, Daimler Trucks, Daimler Financial Services and Van, Buses, Other as a segment. The units are called, of course, the Mercedes-Benz Vans and Daimler Buses.
Please let me stress that the segments' composition remains unchanged except for the Vans, Bus, Other segment which in the future also contains our holding in Chrysler at equity. Like with other interests in EADS, this will occur with a time lag of one quarter.
The third quarter and the first nine months were heavily impacted by the transfer of the majority interest in Chrysler to Cerberus that was closed on August 3. In terms of cash, Daimler received cash of EUR 25.6 billion from Cerberus. EUR 24.7 billion of that amount were repayments of inter-company loans related to the transfer of Chrysler's Financial Services portfolio.
Overall, the transaction had a negative impact of EUR 0.5 billion which also includes expenses for Chrysler's restructuring plan until closing. In addition, cash was reduced by transaction costs and expenses related to the early redemption of debt in the amount of EUR 0.3 billion and EUR 0.5 billion respectively.
In terms of profits, Chrysler impacted our after-tax results during the first nine months negatively by EUR 3.1 billion. On the one hand, this result reflects the loss from Chrysler's ongoing operations in the amount of EUR 0.9 billion. On the other hand, the transaction led to after-tax burdens of EUR 2.2 billion. You will find all of the details on the chart.
The valuation allowance on deferred tax assets impacted net profit negatively by EUR 2.2 billion Euros. These tax assets arose from temporary valuation differences between commercial accounting and tax accounting. Previously, these deferred tax assets had been accounted for at the Chrysler units. These assets are still to be allocated to the Daimler Group but as a result of the Chrysler transaction, the conditions to use these deferred taxes have changed and the assets had to be impaired by EUR 2.2 billion.
Changes in the estimates could lead to adjustments in the following quarters. For the time being, we stick to our previous forecast that the transaction could lead to a total after-tax result of EUR 2.5 billion.
Ladies and gentlemen, I would now like to focus on the results of our continuing business. In the third quarter, Daimler sold 537,000 vehicles, an increase of 4% compared to the prior year, despite the anticipated sharp decline in truck sales in the NAFTA region.
With an increase of 10%, Mercedes-Benz cars sold substantially more vehicles than in the third quarter of '06. Mercedes-Benz vans and Daimler buses also increased their sales significantly. As a result of higher unit sales, group revenues grew by 6% to EUR 25.7 billion. Adjusted for exchange rate FX, revenues increased by 9%.
The group's EBIT which solely relates to the continuing operations, was EUR 1.9 billion compared to EUR 1.8 billion generated in the prior year third quarter. Mercedes-Benz Cars earnings rose significantly. Daimler Trucks reported decline due to the difficult market situation in the NAFTA region and Japan.
The earnings of Daimler Financial Services were impacted by expenditures related to the creation of the separate organization in the NAFTA region. Furthermore, we had a negative impact from pending legal proceedings. This is also the primary reason for the deterioration of the line item reconciliations.
In addition, the prior year quarter included a gain of EUR 86 million from the sale of real estate no longer required for operating purposes.
Net profits turned to loss of EUR 1.5 billion. The decrease is mainly due to valuation allowances to be recorded on deferred tax assets in the amount of EUR 2.2 billion. Earnings per share were negative EUR 1.47. Free cash flow of EUR 5.7 billion and net liquidity of EUR 13.7 billion reflected the financial strength of Daimler.
Let me now look at the segments contributions starting with Mercedes-Benz cars shown on slide 4. In the third quarter, Mercedes-Benz cars continued its positive business development. The division's unit sales rose by 10% to 337,000 vehicles; unit sales of the Mercedes-Benz brand increased 9%, mainly driven by significant higher sales of the new C class, but also strong growth of the S class of 11% and our SUV segment of 12%.
C-class deliveries increased substantial by 32% to 105,000 of which 78,000 vehicles are attributable to the new C-class sedan, making it the market leader in its category worldwide. Gross and unit sales were also supported by higher Smart sales. Due to higher unit sales, revenues grew by 12% to EUR 14.1 billion.
The division's third quarter EBIT improved substantially from EUR 850 million to EUR 1.3 billion, reflecting the positive development of units sales and further efficiency gains in connection with the core program.
In addition, the more efficient utilization of production equipment resulted in a positive effect on EBIT of EUR 159 million. Burdens resulted from the appreciation of the euro against the U.S. dollar.
Let me point out that despite the fulfillment of our core targets, we will not end our efforts to realize further improvements. As a result of the transfer of the structural and process-orientated changes into the line organization, the ideas developed under core will continue to show positive effects and will further contribute to achieving the new return target in the years to come.
The Frankfort Motor Show was the highlight of the third quarter. We not only presented 19 fuel-efficient and lower-emission premium vehicles to be launched within the next three years, we also unveiled the all new station wagon version of the new C class for which orders have been taken all over Europe since September. In August, the C class sedan also became available in the U.S. The U.S. launch of the Smart is scheduled for 2008.
In the third quarter, Daimler trucks sold 118,000 vehicles worldwide compared to 136,000 in the prior year. The decrease reflects a market downturn in the NAFTA region as well as lower demand as a result of stricter emission regulations in both the NAFTA region and Japan. However, unit sales of trucks, Europe/Latin America increased by 12%, particularly due to strong growth in Latin America and Eastern Europe. In Europe, demand was particularly strong for heavy-duty trucks.
Trucks NAFTA sold 24,000 units in the third quarter, substantially fewer than the 50,000 units in the prior year. The shortfall was particularly sharp for class 8 trucks. This was a result of emission regulations EPA-07 which led to pull forward effects in 2006 and a drop in demand for cyclical reasons.
Trucks Asia sold 52,000 units, 5% more than in the prior-year quarter, while sales in Japan and Taiwan decreased substantially compared to the extremely high levels of the prior year, unit sales rose in Indonesia, Australia and the Middle East. As a result of lower unit sales, revenues decreased by 12% to EUR 7 billion.
Daimler trucks EBIT declined from EUR 565 million to EUR 480 million, mainly reflecting the lower unit sales in the NAFTA region and Japan. On the other hand, the ongoing growth in Europe and Latin America, as well as further efficiency enhancements realized under the global excellence program, impacted earnings positively. The extended use of production equipment, part of our group efficiency enhancement, measures improved EBIT by EUR 34 million.
As with our products, demand in Europe is mainly driven by our BLUETEC technology. Since the market launch of this technology in '05, we have sold more than 90,000 BLUETEC trucks. In view of the market success of BLUETEC 5 technology in the S truck, which allows the fulfillment of the Euro 5 emission standard, we decided also to implement this technology in our Atego medium and light duty trucks. Very strong demand in Europe caused us to expand our production capacity in Germany in order to eliminate the existing bottlenecks for supply.
Let’s now turn to Daimler Financial Services shown on Slide 10. In the third quarter, the development of Daimler Financial Services was substantially impacted by the separation from Chrysler's North American Financial Services business. After the sale of Chrysler, Daimler Financial Services contract volume now comprises roughly 50% of the prior portfolio. This causes negative economics of scale in the NAFTA region. In addition, we have to set our own financial services organization for the NAFTA business.
New business of EUR 6.4 billion was 6% lower than in the prior year quarter. Adjusted for exchange rate effects, the decrease was 4%. Nevertheless, contract volume grew by 3% to EUR 57.6 billion; adjusted for exchange rate FX, the increase was 8%.
The division's EBIT decreased from EUR 221 million to EUR 87 million. As a result of separation from Chrysler’s financial services business, we had to incur expenses for the development of a separate financial services organization in the NAFTA region. Looking forward, I am confident that Daimler Financial Services will return to prior profitability levels in the foreseeable future.
Last but not least, our vans, buses and other segment is shown on slide 12. Mercedes-Benz vans continued its very positive business development, increasing third quarter unit sales by 23% to 73,000 vehicles. With an increase of 30%, demand for the Sprinter remained very strong. Also, unit sales of Vito and Viano vans continue to increase by 12%, setting a new nine-month record level for the vehicle segment. In the third quarter, revenues of Mercedes-Benz vans were 30% higher at EUR 2.4 billion.
The Daimler buses unit sold 9, 400 buses and chassis in the third quarter, up 9% compared to the prior year quarter. Sales were particularly positive in Latin America. Due to the high level of orders received, Daimler buses' production is sold out until the end of the year. Daimler buses revenues increased by 4% to EUR 1 billion Euros.
EBIT was EUR 319 million compared to EUR 341 million in the prior-year quarter. The units, Mercedes-Benz Vans and Daimler Buses benefited from the favorable unit sales development and both achieved higher earnings. However, substantially lower contributions from EADS offset these improvements. In addition, prior year EBIT was boosted by a gain of EUR 86 million related to the sale of real estate.
After the sale of the majority interest in Chrysler, the equity result from our 19.9% holding in Chrysler is also included in this segment. However, due to the time lag of one quarter, such net equity result was not yet to be considered in the third quarter.
On slide 14 you can see the Sprinter and Vito vans I just mentioned. Daimler Buses gained a follow-up order of 500 units of Mercedes-Benz Citaro city buses to be delivered from 2007 until the end of 2009. The first order of The City of Bucharest at the end of 2006 of 500 units of Mercedes-Benz Citaro has been completely delivered this summer. In North America, the first units of the successor model, the Orion 7, were delivered to customers in both diesel and diesel hybrid versions.
Following the discussion of the segment results, let us now return to the group level. The composition of the after-tax results is shown on slide 16. Net profit from continuing operations decreased from EUR 1.1 billion to a loss of EUR 1 billion. This is solely due to the valuation allowance on deferred tax assets of EUR 2.2 billion mentioned earlier.
Net loss from discontinued operations of EUR 530 million reflects a loss from deconsolidation in the amount of EUR 0.8 billion and a positive operating result of EUR 0.2 billion at Chrysler that was solely the result of discontinued depreciation.
All in all, the group's net profits turned from EUR 0. 9 billion to a loss of EUR 1.5 billion Euros. All transaction-related issues in the third quarter amount to EUR 2.6 billion, including the valuation allowances. Excluding this impact, our net profit would have been positive at EUR 1.1 billion and thus 21% higher than last year.
As a result of the closing of the Chrysler transaction and the strong operational performance of all of our businesses, our balance sheet and financial key figures significantly improved. Compared to the end of 2006, the group's equity ratio, adjusted for the dividend payment, increased from 16.5% to 27.5%. The equity ratio of our industrial business improved even stronger from 27.2% to 43.3%.
The increase at both the group and the industrial business level reflects significantly lower total assets resulting from the transfer of asset and liabilities held for sale. In addition, equity increased mainly as a consequence of the earnings generated during the first nine months of the year.
As a result of the cash flow in connection with the Chrysler transaction, the group's gross liquidity was boosted by EUR 9.1 billion. This surplus liquidity will decrease over the next quarters when we pay back maturing bonds. This is also the reason why we currently are not issuing any debt instruments in the capital market.
Compared to year end 2006, the net liquidity of our industrial business increased by EUR 3.8 billion to EUR 13.7 billion. We continue to have strong cash flows from the operating business; on the on the other hand we had outflows relating to the share buyback. For the nine-month period, the free cash flow of the industrial business was EUR 5.7 billion, significantly better than the EUR 28 million for the comparable period in 2006.
The strong improvement resulted partially from cash inflows related to the transfer of interest in the EADS and the sale of real estate in Japan, but also from the business development at Mercedes-Benz Cars and Daimler Trucks. Unlike the presentation in the income statement, the cash flow statement also includes the Chrysler business for the first seven months of the year, and thus a burden of EUR 1.3 billion. The details on the liquidity and cash flow figures are on charts 22 and 24 of this presentation which is also available on the Internet.
Slide 17 provides you with an update of our current share buyback program which started in late August. By September 30, 15.8 million shares had been bought back; this is equivalent to EUR 1.05 billion Euros or roughly one-third of the cash-out volume planned for the first phase. At the end of September, we had cancelled 13.2 million shares of that volume. At the end of the year, we will cancel those shares bought back between the end of September and the end of December. Overall, we are in line with our plan to buy back shares in the amount of EUR 3.5 billion by the end of December 2007.
So much about the financials of the third quarter, let me now turn to our expectations for the full year starting with our sales outlook. As far as our businesses are concerned, we assume that at Mercedes-Benz Cars unit sales will exceed the record level of 2006, reflecting strong demand for the newly launched C-class and Smart cars. On the other hand, Daimler Trucks anticipates lower truck sales in 2007 than in 2006, mainly due to a sharp drop in demand in the United States, Canada and Japan. This is expected to be partially offset by rising unit sales in Europe and Latin America.
Due to the strong demand for Sprinter and Vito Viano models, Mercedes-Benz Vans expects to increase its unit sales compared to the prior year. As a result of the very positive development in Latin America, sales of Daimler Buses, are also likely to surpass the high prior year level.
In terms of profitability, the earnings trend of Mercedes-Benz Cars will be positively impacted by the structural and process-oriented changes made in the context of the core program. For full year 2007, the division now anticipates a return on sales of significantly more than 8%. Despite increased expenditure for more efficient and alternative drive systems, we aim to increase return on sales to 10% by the year 2010.
Daimler Trucks expects earnings to be of the same magnitude as in the prior year despite lower demand in some key markets The underlying bottom line improvement reflects the results of implementing the global excellence program.
At Daimler Financial Services, expenses for the separation of the financial services business in the NAFTA region will have a negative impact on earnings. However, the division assumes that it will achieve a return on equity of more than 14% this year. As a result, we expect the group in its new structure to achieve an EBIT of at least EUR 8.5 billion in 2007. This assumption includes a gain of EUR 1.4 billion realized on the transfer of interest in EADS and charges of EUR 0.3 billion resulting from the implementation of the new management model.
Ladies and gentlemen, thank you very much for your attention, I am now happy to take your questions.
Thank you very much, Bodo. Ladies and gentlemen, you may ask your questions now. I will identify the questioner by name, but please also introduce yourself with your name and the name of the organization that you are representing before asking your questions.
Two practical points: firstly please avoid using a mobile phone as this distorts the quality of the call for everyone. Secondly, please ask your question in English. Before we start the session, the operator will explain the procedure.
We'll start the day with the first question from Arndt Ellinghorst - Credit Suisse.
Arndt Ellinghorst - Credit Suisse
I have two questions, the first question is on Mercedes. When I look at your regional sales mix, you are reporting I think plus 28% in unit sales in other markets and you’re your SUVs are quite strongly up in the S Class from a high level, again it is pretty strong.
Does that highlight that you're strongly growing in let's say “brick” markets and can you give us a bit of an understanding of your performance in markets such as Middle East, Russia and China, please?
Secondly, on your industrial free cash flow, you mentioned if I understood that correctly, something like a negative EUR 1.3 billion for the first seven months from Chrysler. Does that include your cash contribution to Chrysler or is that a really clean free cash flow figure from Chrysler? Thank you.
Of course you are right, we are talking about the growth in the brick markets, of course, some which we have Mercedes-Benz. If I would rank these increases, we start first with China. China is the overall market where we have the strongest growth. Year-to-date we are roughly 21,000 units. We have imports of roughly 14,000 units and 7,000 units of E classes in China.
The growth I do think is roughly somewhat 50% in China; and of course, that should also lead us there into a good outlook, let’s say, for the years to come in China, even getting also the C class in CKD, completing of [down] business in China, so it will give us some opportunities there.
Followed by Russia; from a sales perspective I don't know the number precisely in mind. How much it is lower than with Brazil, of course, and India. In India we are I do think 2,000 or 3,000 units there. We are assembling the staff there, as you know, we are investing now in a new plant to reassemble the C, E and the S class. So of course, the growth rate in China, as you know the composition in that market is a different one. It will also be big, but not as big as in China. Russia, again, is one of the markets we are pushing, of course, again not only for the passenger car business, but also for the truck business.
Your question regarding the free cash flow, the EUR 1.3 billion does include, so to say, everything. So the EUR 1.3 billion is the total negative impact of the Chrysler transaction and the Chrysler ongoing cash flow burn within the free cash flow.
Arndt Ellinghorst - Credit Suisse
So if I may, the EUR 5.6 billion you reported, we can assume that the hit there from Chrysler would be significantly higher than EUR 1.3 billion, I would assume?
You might assume it, but of course it is not the case. You know, the EUR 1.3 billion you can separate it. On the one hand, the cash from the transaction which we got in on the one hand so the underlying operating cash burn of Chrysler was a higher one. But again, I do think it is important to know for you, of course, that for total means transaction and ongoing Chrysler cash burn from their operating Q1, Q2, to August 3rd was of course, a higher one.
We will take the next question from Johan Grabe - Enskilda Securities.
Johan Grabe - Enskilda Securities
Good afternoon. I have three questions, if I may. First, starting with the truck division, Mr. Uebber, I wonder whether you can help us looking a little bit further out and especially with the helpful market rebound in the U.S. which appears to be a little bit prolonged, what is the scenario for Daimler going into next year? Do you feel comfortable also with yourselves, larger than 7% EBIT margin guidance starting from '08 including the fact that North America might not rebound. That is my first question.
Secondly, on financial services, I wonder whether you could sketch a little bit the development going forward -- how high were these burdens in the third quarter that you described? Will they reoccur in the fourth? And might we even see something of that in the year 2008?
And thirdly, on Mercedes, how much of this margin improvement was due to the new C-class? I wonder whether you could clarify that situation. Thank you.
You have very detailed questions, or course. Let me start with the truck division. First of all, the situation within truck U.S. straightliner, of course, as we said last year, we thought that the auto intake will pick up as of the third quarter, slowly. That we have to revise. We don’t see an upcoming order intake in Q3 and Q4. We do think that the order intakes and the growth in the U.S. will pick up earliest in the first quarter of 2008.
So what does it -- and of course, I move to the other areas. In Europe and Eastern Europe, the Mercedes-Benz business is this year of course very strong. We also expect a slight increase in Western Europe in the market but Eastern Europe counts to that, and also the Middle East, for example. So taking that altogether, I do think the outlook for next year market wise will not be bad. We will finalize that, of course, in December and give you this information in February next year.
And Fuso, of course, in Japan you know the situation, so it might get a little bit better in 2008. So taking all of this stuff together, I do think there is no reason that we should change our more than 7% assumption for total cyclical business on the one hand, and on the other hand, straightliner will stick this year to positive results over the whole year. Again, if I would assume that after first quarter ’08, we will see some upcoming order intake in the U.S., it would even lead to positive developments compared to ’07.
You asked a question regarding Daimler Financial Services. Of course, the biggest relative down year of our divisions, from $220 million to $87 million, something like this. Two-thirds of this decrease is related to the separation and [cash-out] of the Chrysler Financial Business in the U.S., and roughly half of that is related to some kind of one-time cost.
It is difficult when I now say one-time cost because this kind of one-time cost, like convergence, we will see over the upcoming quarters again because we have first of all legally separate Daimler Financial Services. We need now to, IT wise, separate Daimler Financial Services, which will be done until April, 2008. Which means that this kind of development will go into the year 2008, and what I said to the -- further on in the foreseeable future, I would see then ’09 or ’10, the performance of financial services, after having done all that work within financial services to separate on the one hand and to repair then on the other hand, to get them again in a better situation. For the year 2007, we stick to our target of more than 14% return on equity.
I would like to mention here, although you haven’t asked, about the risk situation in the U.S., which was also a question in Q2 end of August. We have put into reserves EUR 15 million, compared to the second quarter ’07 in terms of risk allowances for the business in the U.S., which is -- let’s see, I talked about that in second quarter of EUR 30 million to EUR 50 million. It is now EUR 15 million and we have to watch the U.S. market, but again, it’s not a huge impact from the risk cost side.
You asked for the Mercedes-Benz impact on the results. Of course we have an impact on the results because in the year we had, until September, we had delivered 100,000 units, whereas 70,000-something -- they’ve done business, I do think so -- no, it was 100,000 they’ve done year-to-date. So of course, it has an impact also in the third quarter but you know that I do not differentiate the business and the earnings between the C-class, S-class, A- and B-class and so on and so forth.
Adam Jonas, please ask the next question.
Two questions, the first just a follow-up on Russia; I believe that your sales year-to-date are around 11,000 units for Mercedes in Russia. They are up 75% year-to-date, so you are annualizing at around 16,000 units, 15,000, 16,000. At what point would the volume in Russia be large enough that you can justify local CKD production? And just generally, can you elaborate a bit more on if you have any more objectives strategically on the growth in this important market? I believe that if you set up CKD with a minimum 25,000 units, you get obviously a very tremendous import tariff relief under current Russian laws. That’s my first question.
Secondly, just a bit more strategically, you are obviously seeing a lot of the discussion swirling around the press, ever since the Frankfurt show, about you begin open to participation in some cooperation on the engine side with partners, and BMW specifically was mentioned. Can you just elaborate -- I mean, do you think that you could be in a position to benefit from working on a cost side with a vicious competitor and be able to kind of have a mutually beneficial scenario if you kept the commercial side dependent? I mean, can you just -- can you kind of fill in for us whether this could work, whether this really makes any sense?
And going a step further, could you say whether you think that Daimler could benefit in any way from having a long-term equity partner, given that right now you are one of the only OEMs in the world without a family or government custodian of some sort? Thank you very much.
Adam, coming to your question, of course Russia is I do think a very important market for us for the future growth of Daimler, but that’s not only true for the passenger car business but also especially for the truck business. We already said that we are close before deciding to do anything in Russia within the truck business, but again that is not only regarding a plant, or a reassembly plant. That also holds true, for example, for the network, sales and marketing, for example. Which we have to expand, so to say, for the numbers increasing within trucks.
I do think your numbers in Russia, what you said about the passenger car business are right and again, it was also true that at some point in time, when these markets grow for the foreseeable future, that we also think about passenger cars CKD, but it is too early to say. That’s not a decision here but again, if markets are picking up as we have seen it in China, you step in in this regard.
For the truck business year-to-date, we have a thousand units sold in Russia year-to-date, just as information here, and it’s up 60%, so the growth rates are intact there.
Coming to your more general question of cooperating with other auto manufacturers, I do think we should -- let’s say from my point of view and from our point of view, it’s the normal course of business that we are working together with other manufacturers, with ones more and with other ones, less. It depends on the opportunities we have in engine business, in axels, in sales, for example, which we are doing for Chrysler, but okay, that is coming from our heritage, so it’s the normal course of business, what we are doing there, and again, why are we doing it? It’s on the one hand, we can see if we can share investments, or we can come to time to market, with more speed to the market with some technical solutions.
We always said we will not do anything where we jeopardize our brand positioning. That is especially true for the passenger car business. But again, with BMW, and Dieter’s actually confirmed that we are in touch to talk about engines, which is also decisive, of course, for our A and B segment business. Again, that could leverage something in this regard. But for example, you have seen that in the truck business, where we have for the light duty trucks, a cooperation with Fiat, so you see us moving in some directions for the sake of doing a very efficient manufacturing and developing of trucks and cars, again with not jeopardizing our brand position. It’s the normal course of business there.
When it then comes to -- and again, I would also state here that we do achieve the 10% margin target for Mercedes with our own. Nothing is in there which is a precondition of cooperating with somebody to achieve this 10%, and that same holds true for the over 7% target of trucks.
Your general question regarding then equity partners in this regard, you know, as I can work together with these guys with cooperating on a project-by-project basis, I don’t see any necessity to have equity stakes in these kinds of peers.
Adam Jonas - Morgan Stanley
Thanks very much.
Next question from Avaneesh Acquilla, please.
Avaneesh Acquilla - UBS
Just a couple of questions; first one on the truck business, it’s good to see the data that you’ve provided on incoming orders, and just looking at that data, it looks as though the orders are running well above your retail sales, especially in Europe. I wonder if you could give us an idea of what your order backlog is in European heavy truck at the moment?
And just a second question, there’s been a couple of stories in the press about Mercedes rebates in Germany in Q4 of up to a EUR 1,000. Can you confirm whether or not this is something that’s happening and what the rationale for these kind of rebates in Germany might be? Thanks very much.
To your questions, first of all, we have now provided transparency. I do think that it’s okay from an order intake point of view, also they’d be comparable to others who are presenting these numbers. The only thing I would like to say here without now getting into the next numbers of providing to the market, which we might do in the future, we have to consider, the only thing I can say is in Europe, we have an order backlog which is so high, six months, roughly, which is the highest one that we had right now and we do everything to increase capacity in our plants in Woerth and Aksaray in Turkey to speed up, here’s where we are, very high order back -- and you can assume that our order backlog within freightliner is down due to the order intake we have there. With Fuso, it’s a little bit different because there we have the Japanese situation, which is down but the Southeast Asian markets and their export markets are Fuso, which is up, so there we are on a better situation.
Your question regarding the rebate situation in Germany, I ask for your understanding that I do not comment on single country strategies or anything else within the countries or car lines. We have a policy that for business which is the end of the cycle, that there is some of that spending to -- at the end of the cycle, but again our business system in total is very clear and we will not do anything with incentive to jeopardize our residuals and our total business system we do have.
So everything that we have seen here is everything is in line with our business strategy overall which we have in Mercedes-Benz passenger cars.
We’ll take the next question from [Phillip Poushoi], please.
Good afternoon. My questions were on, if you can talk about Smart a little bit, how things are going with the new model in terms of order intake and cost space and profitability. And also something we never hear you talk about, which is Maybach. How is that doing? I’m afraid of asking if its earnings cost of capital, but how you see the Maybach brand going forward, as we see more and more of you product or future direction of Mercedes growing definitely more at scale. What’s your general thoughts on Maybach and the business liability of the business?
Phillip, your question regarding Smart, Smart is totally in line with our plans for 2007 in all aspects. That means on the one hand, looking at our sales as of September, we have -- in September, we delivered 10,500 Smart fortwo to customers, which is again a highlight, and we have the market introduction for the Asian markets now in the last quarter of ’07, so there is something which also could pick up growth in the fourth quarter. We have sold already 50,000 Smart fortwo for the year until September.
Regarding our profit position, it is as we stated last year. Our plan was to break even and our estimation of this year, what I can see in the books, is that we will meet this target or overachieve that target of being break-even within Smart. That means all the assumptions which we have made to achieve that, that was -- for example, last year under the restructuring of 25%, I do think, for the fixed cost position and 20% for the G&A areas, for example, and also the [mature] area, will come true for the year ’07. I can only confirm our assumptions which we had made before.
You mentioned then Maybach and Maybach, of course -- I have also to say that Maybach from the unit sales which we have there and together with the Smart brands of course is not pretty much a huge impact on the Mercedes-Benz cars, not only sales wise and also not, of course, sales times then the margin, which we have. It’s also not a huge impact but again, the Maybach is doing fine in regard of market share in this competitive class and therefore it contributes overall to the Mercedes-Benz car situation.
And we’re not in a situation, you know, Smart used to be very small but still a big problem in terms of earnings. We’re not in a situation where Maybach could become a problem?
Maybach delivers a positive sales contribution and a positive earnings impact on Mercedes-Benz.
And if you can squeeze just a quick comment on the truck, your European truck deliveries are pretty much flat in the quarter and we see other truck makers having better deliveries. Why are your deliveries flat? Is it production bottlenecks?
On the one hand, it is bottlenecks in production. On the other hand, you have to look also on the last line item. There’s a mention, “Rest of World”. And what you can’t see in our disclosure in Europe, you don’t see, for example, deliveries to the Middle East, which has picked up very much. And you can see that in the last line item.
We might change next year but we are in discussions here also a little bit of our regional disclosure. But again, that is too early to say how. But again, the Mercedes-Benz brand is also part of that last line item.
Thank you very much.
But what’s also very big is Eastern Europe, for example.
Okay, thank you.
Steve Power, would you please ask the next question.
Steve Power - The Wall Street Journal
Just another question on Smart; does the weakness of the U.S. dollar in any way threaten Daimler’s hopes of making money on the fortwo when it goes on sale in the U.S. next year?
And the second question is, if you could just elaborate a little bit on the talks with BMW, how likely do you think it is that you might have a cooperation with them on engines or small cars? And are the talks becoming more intensive with time or are they sort of just episodic and not becoming so intense? Thanks.
Coming to your second question regarding BMW, I have already answered the question from Phillip or somebody, regarding BMW. In total, it is the normal course of business that we talk to other auto manufacturers with some more in-depth, and others not. BMW is certainly a partner where we might have more talks because in some areas, we are fitting good together, but all other stuff is more speculation. That is normal course of business that we are in touch with somebody, discussing an engine, for example, and with others discussing other stuff.
And again, we have General Motors, we have BMW for of course, in the hybrid area, for example, where it also makes sense that we work together. We’ll see as we do that again in the truck business with four cylinders and we might see other stuff in the truck area where we can work together.
That is, as I said before, we tried to reduce investment. It is not only one shoulder, it is two shoulders, three shoulders, where you can then share fixed cost on the one hand, or you are better then in time to market, or even have a better solution than we, but again, what we do not do, we are not jeopardizing our brand position.
Again, it is part of a scale game which we are doing, combining forces. But nothing more, but on the other hand, also important that we are doing that for improving our profits.
Then you had a question to Smart again. I can only confirm that we are happy to launch the Smart next year, also under the current assumption of the U.S. dollar. Of course, the U.S. dollar again, on the one hand, you need to look at the short-term impacts. Short-term impacts you can offset on the one hand with hedges, which we have done before, for example. But long-term, you have to look at other issues and there you have to look at the local content in this country, so U.S. dollar local content, for example, bigger sourcing decisions, which will come up from now into the future, other decisions about new product, when we are starting to develop them. We have to look at the natural exposure, so that is more the issue when you look at special car lines that you look at the overall exposure you have for the long-term.
In a short position, you will see the Smart in the U.S., of course, and you will see that also totally, as we said, break even.
We’ll take the next question from David Green, please.
Just one quick question for you; your guidance for this year of a margin significantly above 8% in the Mercedes Car Group, I just wondered if you could follow this train of thought; I think you’ve said that you will have done 8.6% margin for the first nine months within Mercedes Car Group, and historically we’ve typically seen an out-performance for Mercedes Car Group in terms of margin on the fourth quarter over the third quarter.
Now, just to clarify, would you expect the same pattern to continue this year? And if so, that would seem to imply mathematically that you would be doing a margin in Mercedes Car Group of around 9% for this year. I just wondered if you could make any comments on that.
I can only make a short comment to that, David. We are not giving quarterly guidance. We are doing a yearly guidance, as always, and the message is here significantly more than 8% for the total year.
Next question from Christian [Breichtspringer].
Christian Breichtspringer - Oppenheimer
Good afternoon. It’s Christian Breichtspringer from Oppenheimer. I have one question remaining on the potential negative impact from the Chrysler disposal. Maybe you can clarify that a little bit. What is the potential additional amount that we could see and would that be a cash burden, or just an accounting burden? I don’t quite really understand this statement on page three of your investor relations release where you are talking about an additional potential net income burden of $2.5 billion that could occur in the coming quarters.
Thank you for this question. I might have to clarify something. The $2.5 billion is our former target, which we have given in the second quarter, and we say that we stick to the $2.5 billion. It is not additionally to be added to the 2.2, so it’s a good question. So it’s -- the 2.5 is the maximum we do see right now from today’s point of view, which for the total deal in our books. We have already $2.2 billion year-to-date, which means okay, there might be another $3 billion to come and that depends on the estimates we have made regarding in the third quarter.
You may imagine that, for example, when you don’t have finalized the [stick] statement, for example, there could be some movements up and down and fluctuations, and therefore we stick to the $2.5 billion as an overall guideline.
So that’s nothing to be concerned about that there’s another $2.5 billion coming. And again, you asked for certain risks and cash. Of course, you know, I can make a presentation of 10 minutes. Again, the pension guarantee of $1 billion, we have a $1.5 billion credit, which is not taken yet today. It might get -- they might get it in the future but again, for example, I would also like to mention that what [Zabo’s] management is right now doing, for example, with the healthcare deal and other stuff might also have positive impacts over time on us.
So again, there are many things to be mentioned. I do think for the conference call, it is too much.
We’ll take the next question from [Kieran Mon], please.
Kieran Mon - Odie
Hello, gentlemen. It’s Kieran Mon calling from [Odie]. Congratulations, another excellent quarter. I’ve got two or three questions, if I may. The first one is about the guidance on financial services. If I look at the documents, you’ve still got slightly less than EUR 9 billion of equity in that business now. A 14% ROE would imply about EUR 1.2 billion of profit and yet, that would imply an extremely strong fourth quarter. Can you just give some clarity on what’s going on there?
My second question is about the cash flow number. I always struggle to sort of understand cash flow statements very well. My question is this -- you referred to Cerberus repaying money to you prior to you redeeming bonds. Was there any boost from that specific issue within the $5.7 billion cash flow number that you declared?
And then, two final questions; dollar hedging this year, could you just give us details on what your dollar hedging has been over the course of the year?
And then finally, have you ever given any number for what the core program has saved year on year? Just to help me understand what is a sustainable step up and what has perhaps been more driven by product cycle and demand. Sorry it’s a lot of questions at one time.
Of course you asked four questions, and you stated with your first sentence two or three questions, but again, I do think I will shoot for the four.
First question, your assumption is wrong, sorry to say. Financial Services does not have anymore EUR 9 billion equity. Of course, due to the separation, it -- also kind of half. It is, as of the 30th of September, it is EUR 4.1 billion equity. Now, if you times that by 14%, you get to let’s say roughly around something EUR 600 million. Okay? Only a clarification.
Then you questioned the cash flow and you asked whether there was anything from the bonds -- transfer of financial liability, which we get back. It was EUR 24.7 billion, on top we got EUR 900 million from the transaction, it’s EUR 25.6, something like this. And this has no impact, of course, on the free cash flow because it is only part on the net liquidity and there it is zero because you have matched, on the one hand, you get the cash and on the other hand, you have the bonds and the commercial papers. And this equation on both sides is zero. So the impact on net liquidity of that is zero and it is not part of free cash flow.
Then you had the question about dollar hedgings. Of course, for this year, we are fully booked, means near to 100%. We are normally going to 90% because you don’t match it by 100%. We are. You don’t ask for this question but I give it to you the answer of 2008, we are over 60% hedged and for the year 2009, we are something like 20%.
Kieran Mon - Odie
And the rates? Can you give us rates?
And the rates are always deteriorating over time, the longer you wait. Again, that is -- we don’t give this kind of competitive data, of course, but we also that regards to price positioning, other stuff and transfer pricing and so on and so forth.
Your last question regarding core, just to quickly walk you through, we had in 2004, we had $1.7 billion I do think, so as earnings starting. And if you put this [$7.1 billion] on top of that, of course, and you have only a difference between -- no, the 7.1 billion has to match 1.7 in the past when getting to roughly $4 billion or something like this in earnings, which is five-point-something. The difference of that is $2 billion, so the question is where is the $2 billion between the earnings improvement and the core program? And that is honestly U.S. dollar.
Secondly, wage increases, which we have not in the core program and some other movements in costs and raw material stuff. So if you put all this stuff together, the net effect you can see in earnings is five-point-something, is the gross effect, so to say, is the $7.1 billion of core.
Kieran Mon - Odie
And just specifically, ’07 on ’06, what’s the gain being on core, roughly?
I cannot say now. You know, that’s your fifth question and I don’t have those numbers here.
We’ll take the next question from Daniel Schwartz, please.
Good afternoon. Daniel Schwartz, [inaudible]. I have one question concerning Mercedes. Despite higher Smart and C-class sales and a weaker dollar, revenues per vehicle increased. What’s the driver for this? Does it imply that you achieved much higher transaction prices in some growth markets like China and Russia.
The second question is concerning trucks. The 41% drop in order intake in Japan, is that in line with your assumptions or will you have to do some adjustments at Fuso going forward?
The revenue per unit on the one hand is mix, and of course also the options which are in the cars. So we have better options, so to say, engine-wise for example and C class, for example. Of course, the regional distribution, the higher the growth rates in some countries where we do have higher sales contributions; China, for example. There, of course, a little bit from this comes also to the revenues per unit.
Your question regarding Fuso, everything is in line with the assumptions there. We are in a not very good market, but we are as planned -- precisely.
We take the next question from Tim Everett – Amber Capital.
Tim Everett – Amber Capital
I think in the past on the C class you said modular production decreased your costs by 30%. I'm curious if the magnitude in the E class newly designed, if you'll get the same benefit?
On the balance sheet, I know you talked about addressing it further in 2008. I'm curious if you have any further thoughts on continuing with another buyback or special dividend?
Tim, the 30% from the modular strategy, I don't know this number for the C class. The only thing I can say is that of course the share of modular strategy with the E class would be higher than in the C class, and therefore the relative comparison from the econo model to the new model would be attributable to the modular strategy. That is a higher impact than for the C class. That is the only thing I can say there.
Your question regarding our capital structure within the balance sheet, I will repeat what we have already said. We would like to improve our balance sheet capital structure regarding more leverage and we are using two instruments for that. On one hand, it is operational; on the other hand, structurally we said we would target it with share buyback. We are into share buyback right now, and again, it is too early to speculate what will come afterwards in ’08 and ’09.
Tim Everett – Amber Capital
If I could add one more question.
We will take the next question from [Evan Harte], please.
Three brief questions. Firstly, could you give us some guidance for 2008 group CapEx and cash R&D spending?
Secondly, if you could give a little bit more guidance on Mercedes. When we look at R&D accounting, can you give us some idea as to what the capitalizing rate for Q3 was and how that compared to last year and how it has been year-to-date. Also then, the net impact of capitalizing and amortizing within Mercedes.
Finally, and it is a question on the group, really. You have lowered your depreciation charge by extending the useful life of assets. I understand you did this at the beginning of the year. Can you confirm that you are comfortable with the level you have at the moment and that you don't intend to extend them anymore, and that's as effective as the one-off change you have already made and we shouldn't expect anymore changes on that front?
You had a question regarding 2008 on the group level, CapEx and R&D. Having not finalized all operative plan, I have to pass this question to February when you ask it again. But from today's perspective, preliminary, I expect R&D investment going up, somewhat, if I look at the total group of Daimler.
There are some spendings, of course, within trucks to the SFTP, for example, that is the successor of X class and the super grade, within Fuso, for example, where their development will pick up somewhat. The medium duty engine, for example. so I expect there some increase within trucks but also it holds true for the Mercedes-Benz Cars. They also confirmed that regarding also our spending and investments in terms of C02 answers, so to say. The Road to the Future of the 19 cars we have mentioned in the Auto show in Frankfort. Of course, that needs some investment so the number in '08 will be higher than in '07.
You asked for the capitalization rate of Mercedes-Benz passenger cars. We started in '06, I think it is roughly somewhat 20% when we introduced [inaudible] I do think I mentioned these numbers. This year it will pick up. Also we mentioned that in the direction of around 25%. Of course, if we do some more investment in that, of course, this number could also be in the future somewhat higher.
Again, these higher capitalization rates are all incorporated in our margin targets of the 10%, so nothing to worry about there. I do think from a comparison to other competitors we are conservative in this aspect because the capitalization rate of others are somewhat higher. That means that we expense also a lot.
The other data, I don’t have available right now where you asked for how much is now pro rata expense in this year. You asked for the use of production equipment. First of all, I would like to state that we made assumptions technical-wise from core. It is a technical-driven measure. We are using production equipment longer, so that makes total sense. As I don't expense us to change this, I will not have a next accounting change in this regard. So that's it and now we are fitting together the technical lives and the economical lives and we don't change it in the future.
Just to follow up a little bit on Mercedes, broadly, is it a significant increase on CapEx and R&D in 2008? Is it of the order of more than 10%, just to get a feel for the magnitude?
We stated that also at the Auto Show, a couple of hundred millions.
We take the next question from Michael Punsit.
I have one question regarding your new management model. Generally in '06 when you introduced the model, you said that you expect some earnings savings of roughly EUR 1 billion on a net base per annum, and that you expect costs of EUR 2 billion for ’06 to ’08. Could you give us an update of both figures after the disposal of Chrysler, please? Thanks.
It is a difficult question right now because the comparable data for the baseline for this number, we have not yet here anymore, so to say, because we left it with Chrysler. A rough number right now, and we have to look into that issue also for '08 and '09. Roughly 20% lower than the EUR 1 billion and the EUR 2 billion. But that is a rough number which we have to look again into our operating plan as of December and come up with a better guidance for '08 in February. It is not a perfect calculation, it is 20%. It is 20% out of this amount but again, we have to look into our operative plan and to again review this number, the 20%.
But if you look to the EUR 2 billion figure you have booked roughly EUR 400 million in '06, and you will book EUR 300 million in '07, so that means that EUR 1.3 billion left.
Therefore, as I said , we have to review the number of EUR 2 billion again within our operative plan. This number of 20% you can take for the EUR 1 billion. For the EUR 2 billion I don't have yet an estimate for the years '09 and '08 and we will come up with this stuff in February. Again, we are more efficient in the using this EUR 2 billion, so the number will be far lower.
We will take Philippe Houchois – JP Morgan.
Philippe Houchois – JP Morgan
Regarding the legal proceedings, what is the topic of these legal proceeding which have burdened in Q3 net profit does it concern the total operation? There are new provisions. Second point regarding the U.S. operation, have you had some feedback from the sub-prime impact on the recent orders underway, financing coming from the dealers?
Philippe, your first question, of course, we do not mention the legal proceedings even if they are current and not fixed. I will not comment on this question. The only thing I can say is that the amount of expenditures we have there in this area is mainly the difference between the two numbers third quarter '06 to third quarter '07; the deviation between and the reconciliation line item.
The U.S. operations, of course, we have a weaker U.S. economy in the U.S. and I commented on that at the end of August that we have in some states some higher delinquencies and the impact on that was 50 million in reserves for the third quarter in 2007. That is not a sub-prime impact that because of a weaker economy and not of huge concern. We are fine with our operations there. I also stated we will get to the 14% return on equity for the whole year in financial services.
Philippe Houchois – JP Morgan
The discontinued operation, actually in Q4 will we have no item regarding discontinued but we will get a part of the profit or loss of Chrysler put on equity?
I cannot confirm that we have nothing there, because we have stated that we will maybe change estimates and that might lead to some impacts in the fourth quarter. Therefore, I stated also that we stick to our objective EUR 2.5 billion as a total amount of the transaction and we have year-to-date EUR 2.2 billion booked.
Philippe Houchois – JP Morgan
The question regarding discontinued operation on another line which does not tell [inaudible] to the deferred tax assets?
It does not defer, you're right, the deferred tax assets are a part of continuing operations.
Obviously there are no further questions, ladies and gentlemen. Thank you very much for your questions and for being with us today on the phone or on the Internet. Corporate Communications and Investor Relations remain at your disposal to answer any further questions you may have. We hope to see you again soon.