Ericsson Lm Telephone Co Q2 FY2023 Earnings Call

Hello, everyone, and welcome to this call covering Ericsson's second quarter 2023. With me today, as usual, I have our President and CEO, Börje Ekholm; and our CFO, Carl Mellander. As usual, we will start this with a presentation and end with a Q&A session. And then in order to ask questions, you need to join the conference by phone, remember that. Details can be found in today's press release and on our website, ericsson.com/investors. And please advise that today's conference is recorded. But before handing over to Börje and Carl, I would like to read the following: during today's presentation, we will make forward-looking statements. These statements are based on our current expectations and certain planning assumptions, which are subject to risks and uncertainties. The actual results may differ materially due to factors mentioned in today's press release and discussed in this conference call. We encourage you to read about these risks and uncertainties in the earnings report as well as in the annual report. With that said, I would like to leave the word to you, Börje. So please, Börje.

Thank you, Peter, and good morning, everyone. A big thank you all for joining us for this second quarter report. I'm happy to present a quarter where we continued to execute on our strategy to build a stronger and more profitable Ericsson for the long term. Based on our strategy and our strong position, we're able to deliver a solid quarter despite challenging market conditions. We see a changed business mix with North America representing one of the lowest shares we've seen in many years. But on the other hand, we see India growing very, very fast. Our strategy, as you all know, is focused on three priorities: the first one to bolster our leadership in mobile networks; second is to grow our Enterprise business; and thirdly, drive a cultural transformation of the company. Mobile networks continue to be the bedrock of Ericsson. With about half of the world's 5G traffic outside of China carried through our radios, we are a leader in the market, and we remain fully focused on continuing to strengthen this leadership position. In parallel, we're using our expertise in advanced cellular networks to expand into the fast-growing enterprise market, and that will substantially increase our addressable market, diversify our portfolio and put us on a higher growth trajectory. In our platform business, we're developing new ways to monetize 5G's unique features like speed, latency, etc. Operators and enterprises are showing great interest in this area, and it will allow them to differentiate their offerings and start to develop completely new use cases. We're also continuing our relentless focus on enhancing our compliance program to make sure that it's fully embedded throughout the company. With that, let me now go through some of the key takeaways from the quarter. As we've said before, 2023 is a choppy year and Q2 developed much in line with our expectations and what we have said to the market. We continued to execute with discipline and focus. Our overall sales declined by 9%. The decline in Networks was partially offset by organic growth in Cloud Software and Services and a 20% organic growth in Enterprises. The EBITA margin, excluding restructuring charges, was 5.7%. In Networks, India continued its strong development and network rollout. And by delivering a record build-out, we now have the leading market share in India as well. As expected, we saw a softening in other markets, primarily front-running 5G markets, and that includes, of course, North America, and that's something that we have discussed with you before as well, where we see the build-out pace being moderated, but we also see customer inventory levels being rebalanced. And despite this big mix shift between our geographies, we could deliver a Networks gross margin of over 39%. In Cloud Software and Services, we continued to execute on our revised strategy to reach profitability, and we are on track to reach at least breakeven for the full year. In Enterprise, we saw a strong growth in Enterprise Wireless Solutions, and we're also happy to see a positive EBITA in Global Communications Platform. And we saw sales from Vonage's current communications APIs offerings to grow by 19%. And you all know the importance of IPR for our long-term financial targets, and of course, that's built upon our strong technology leadership position. In the quarter, we were able to secure another important 5G licensing agreement with a device vendor that puts us well on track to further strengthen our IPR revenue base into 2024. We're also addressing areas that are in our control. So when we are in the market, as we are today, that's challenging. We are intensifying our efforts on the cost-out initiatives, and we are well on track to reduce our annual run rate by at least SEK 11 billion, and this will start to positively impact the P&L over the coming quarters, already now in the third quarter, but have full effect during 2024. The overall performance in the quarter is a testament to the underlying strength and resilience of our business and our ability to adapt and execute in a challenging macro environment. With that, let me hand over to our CFO, Carl Mellander, to really go into the numbers.

Thank you, Börje, and a very good morning to everyone on the call. So as you saw this morning, the results that we published came out according to our expectations and per the guidance that we had issued in connection with the first quarter report. I'll start by having a look at the development in the different market areas and then comment on some of them, if we go to the next slide, please. So looking here at the geographies, as Börje said, we saw rapid 5G rollout in India. It's very clear. And the Network sales in India doubled year-over-year. This resulted in an organic growth in our market area called South East Asia, Oceania, and India by 71% organically year-over-year. Our strong growth in this market area partly offset the softening, as we have discussed many times, in the North American market. This was as expected. And the decline there in North America was 42% year-over-year organically due to lower CapEx spend, as anticipated, and also reductions of customer inventory following the very high investment levels in 2021 and 2022. However, Cloud Software and Services grew 10% in the North American market area, driven by 5G. In Europe and Latin America, which actually was the largest market area for us in terms of sales in this quarter, we saw a decline in Europe by 6% organically. But in Latin America, we recorded a growth of 3% organically, mainly driven by additional 5G deployments in Brazil. And overall, this resulted in a 3% decline for the market area as a whole. If we leave this and then zoom in on how all of this came together in the group P&L. Our reported sales in the quarter were SEK 64.4 billion, which is a decline of 9% organically due to all the reasons discussed on the previous slide. So I will not repeat that, but let me jump directly to gross margin. Gross margin, excluding restructuring, declined by 390 basis points year-over-year to 38.3%. This is primarily due to the lower sales and lower gross margin in Networks due to this continued change in business mix, combined with large rollout projects, which come with initially lower margins because there's a large portion of service content in those, but they also improve the margins over time. In gross margin, we also see a positive impact from the increased IPR revenues. IPR revenue increased by SEK 1.7 billion year-over-year to SEK 3.2 billion in the quarter. And this increase was mainly driven by one contract signed in Q4 2022, but also the new licensing contracts signed in this quarter that Börje already mentioned. So our Q2 numbers also include revenue for the past unlicensed quarters in accordance with this new IPR contract. Cloud Software and Services gross margin, excluding restructuring, was 33.9%. This is a slight increase of 40 basis points year-over-year, supported by higher sales, but also improved delivery performance and the higher IPR revenues help as well in this segment. Then in Enterprise, gross margin, excluding restructuring, decreased to 46.3% from 52.8%, and this is really due to the consolidation of Vonage into Ericsson with a lower gross margin than the remaining part of the Enterprise segment. Further down the P&L, R&D and SG&A increased year-over-year. Aside from the FX impact here, which stands for about 25% of the increase, this mainly comes from the addition of Vonage but also further investments in R&D as well as go-to-market activities in Enterprise Wireless Solutions. So all in all, group EBITA margin, excluding restructuring, was 5.7%, which is again in line with our expectations. The year-over-year decline that you see is mainly impacted by lower gross income from Networks but also the increased investments that we undertake in Enterprise and the consolidation of Vonage. I can also mention restructuring charges of SEK 3.1 billion in the quarter. This is mainly for redundancy costs related to the cost-reduction activities. We still estimate restructuring costs to amount to SEK 7 billion for the full year. As a result of this amount of restructuring, combined with the other factors in the P&L, we reported a net loss this quarter of SEK 0.6 billion compared with net income last year of SEK 4.7 billion in the corresponding quarter. I also want to mention that if we look on a rolling four-quarter basis, sometimes that's a better metric, then our EBITA margin was 9.1%. As you know, the long-term target is a 15% to 18% EBITA margin. We can move to the next slide to have a look at cash flow now. So cash flow from operating activities decreased to SEK 2.9 billion from SEK 6.3 billion, SEK 2.9 billion negative. This is mainly due, of course, to lower EBIT but also an increase in working capital year-over-year. And why did working capital increase? Well, it's primarily driven by the business mix shift, the same aspects that impact the P&L, including these very large rollout projects, which have longer order-to-cash cycles than the front-runner 5G markets have had. This is an impact on working capital, but it is temporary. Cash flow was impacted by the payment of the fine related to the resolution with the U.S. Department of Justice of SEK 2.1 billion, which was provisioned in an earlier period but paid in the second quarter. We saw a small reduction of inventory. So that's good to see inventory coming down. This is driven by both the components coming down and finished goods as well. Of course, this supported cash flow in itself. So a result of all of this is a free cash flow before M&A at minus SEK 5 billion. To that, we can add M&A activities, SEK 0.9 billion, which was a result of Cradlepoint's acquisition of Ericom, which we have announced earlier. We do that acquisition to strengthen the 5G offering in the Cradlepoint or Enterprise Wireless Solution portfolio. Rolling four-quarter basis, I return to that on free cash flow, was SEK 6.4 billion, which corresponds to a 2.3% of net sales, again, compared to a long-term target of 9% to 12%. As I believe I mentioned also in the previous quarter, we are not satisfied with where we are in terms of cash generation, and this really remains a key focus area for us. For Q3, we don't expect significant changes in working capital. But in the second half of 2023, we do expect a positive free cash flow before M&A, with Q4 as a strong cash flow quarter in line with our historical patterns. I can also mention here that we paid out the first dividend installment in the quarter, amounting to a total of SEK 4.6 billion. Summing that up, closing net cash position then ended up at SEK 1.9 billion, while gross cash is at SEK 35.7 billion. Here, we continue, of course, to execute on the funding plan we had to refinance the maturities we have in the debt portfolio and add also new sources. Among many activities in corporate finance, we have launched a commercial paper program in the quarter, and we signed an initial facility for USD 0.5 billion for general corporate purposes as well. Finally, for me, let's look at the outlook for next quarter, the third quarter 2023. A couple of items to pay attention to. First of all, we expect gross margin for Networks to be in the range of 38% to 40% in the third quarter, with very similar trends and mix as we saw in Q2. We have less IPR revenue due to catch-up revenue in Q2, but on the other hand, some support from cost-out. OpEx, and here we exclude Vonage, typically decreases seasonally with SEK 0.7 billion from Q2 to Q3. But of course, as usual, we have large variation between quarters. We expect now cost reduction activities to start to have an effect in Q3, but still rather small but increasing over time quarter-by-quarter going forward. It's going well in terms of executing on cost-out, and we are aiming at a run rate saving of at least SEK 11 billion by end of this year, of which 45% is related to OpEx. For Cloud Software and Services, we expect Q3 EBITA to be in line with Q2. We will, according to our estimate here and we're committed to that, reach at least breakeven for full year 2023. Group EBITA margin, again, excluding restructuring, is expected to be in line with or slightly better than Q2. Again, similar trends, similar business mix, early benefits of the cost-out execution, and then followed by a seasonally stronger fourth quarter. Thank you all for that. And with that, I hand it back to you, Börje.

Thank you, Carl. So our strategy is really working, and we are leveraging our technology leadership in mobile networks as well as taking the critical steps in our ambition to grow in enterprises. As we look ahead, I think it's important to single out that the fundamental driver of Network CapEx is really the continued data traffic growth. We see that 5G really continues to grow very fast. We currently forecast 5G subscriptions to be about SEK 1.5 billion by end of 2023 and reach SEK 4.6 billion by 2028. We also see that the data traffic in the network continues to grow. We also start to see new types of use cases, call it fixed wireless access, but we're also starting to see enterprise use cases. So data traffic is growing. With the operator's desire to meet the user's expectation for network quality while adding on cost and energy efficiency, we see that the CO2 footprint starts to be more and more important, which will stimulate further investments. In addition, we see that three-fourths of all base station sites outside of China are not yet updated with 5G mid-band. This, in combination with the migration to 5G stand-alone, will basically continue to drive the need for investments in 5G networks around the world. We are confident that the market will recover, and that's what we have said for several quarters. As a consequence of these factors, of course, the exact timing of the recovery will be in the hands of our customers. But we are encouraged by the discussions we've had with several customers, where we see a recognition of the need to strengthen capacity in the network. That said, we expect a gradual recovery towards late in 2023 and then improve in 2024. When that happens, Ericsson is really well positioned to benefit. Based on an expected recovery of the mobile network market, we remain focused on reaching the lower end of the 15% to 18% EBITA margin target in 2024. So to sum up, we continue to navigate the current environment with discipline and focus. We're delivering on the Cloud Software and Services turnaround. We are making portfolio adjustments. We will enhance R&D productivity. We see IPR revenue growth, and we will continue to execute on our cost-out reduction initiatives. In an uncertain market, impacting what we can control is critical. We have accelerated our efforts on cost-out, as we spoke about last quarter, in preparation for tougher market conditions. But we remain ultimately focused on our key strategic priorities: to drive technology leadership in mobile networks, expand or leverage the capabilities we have for cellular networks into expanding in the enterprise space that increases our addressable market and growth potential, and finally, to strengthen our culture. With that, I would like to thank all the fantastic people in Ericsson who has made this position we've achieved today possible. A big thank you to all of you. With that, back to you, Peter.

Thank you, Börje. So it's now time for the question-and-answer session. If you are streaming the webcast, please mute the webcast audio whilst asking a question to minimize any sort of audio feedback.

I have a couple of questions. My first one is about the discrepancy between your guidance of 15% EBITA margins for 2024 and the current consensus at 11.5%. The increase in EBITA implied by your guidance is nearly SEK 20 billion, which is almost double your planned annual cost savings run rate of SEK 11 billion, some of which is already reflected in the 2023 figures. I'm trying to understand where the consensus may be off. Is it related to market mix, or do you anticipate significant growth for 2024? What areas are we misjudging?

I can begin by saying that our targets for 2024 are based on our expectation of a market recovery, which is an important factor to consider. While it's difficult to predict the exact timing of this recovery, we are confident it will occur and provide essential support for the market. We aim to achieve a cost reduction of at least SEK 11 billion, which will also contribute to that support. Additionally, there are a few aspects that may not be fully taken into account. For instance, we anticipate growth in IPR revenues next year. We also expect a significant turnaround in our Cloud Software and Services, which will bolster performance. Moreover, we will implement some portfolio adjustments that we've previously discussed to further enhance support. We remain committed to achieving our targets for next year, aiming to reach the lower end of our projected range. We are focused on this goal, and we are striving to be proactive in managing the factors within our control.

Yes, just a quick follow-up. I do feel that your message for the recovery has slipped by about a quarter. You mentioned before, I think in Q1, we spoke of a gradual recovery in the second half. Now basically, the third quarter is very similar to the second, with a slight improvement in EBITA margins, but not that material, and the real recovery is in Q4 or then seriously in 2024. Can you tell us which markets are a little bit weaker than you previously thought? Is it a longer slump in the U.S. primarily or anything else?

We see overall a softer market that we've said since the end of last year. Of course, it's very hard to predict the exact timing when customers will buy. What we see is the network quality around the world is actually starting to deteriorate in many markets. That provides the basis for the investments. Exactly when that's going to happen, I feel that it's really in the hands of the customer. So it's in the hands of their view of the capital market, their view of prospects for increasing revenues, etc. That's a bit difficult to say. With our current visibility, we believe it's realistic to plan for that to happen later in 2023. Is it later or earlier than we have said before? I don't really know. If anything, it's probably fair to say that it's slightly later. But it's not a dramatic change in outlook that we tried to say already last year. At the end of last year, we spoke about the slower build-out pace than we expected. We spoke about the inventory adjustments our customers are making. Of course, as this quarter continues, there will be less and less of the inventory adjustments. So that will provide support for the market recovery and kind of looking better towards the end of the year.

Thank you, Aleksander, for that question. Now, let's move on to the next question from Francois Bouvignies from UBS.

I have a quick follow-up on Börje's comments regarding inventories. You mentioned being affected by inventory correction, and that situation continues into Q3. Can you share any estimates on where we currently stand with this inventory correction? Specifically, how does this compare to normal inventory levels at your customers? Any insights you can provide would be helpful.

Yes. I can address that. We observed this trend in Q1, as expected, and it continued into Q2. We expect it to persist to some degree in Q3. That's why we refer to a similar pattern and market mix in relation to the inventory reductions. Based on the visibility we currently have and our discussions with customers, we anticipate that this will stabilize toward the end of the year. As Börje mentioned, this will aid in the overall recovery, making the second half of the year stronger than the first half.

Okay. And maybe longer term, Börje, you talked about the 75% of all base stations outside China not yet updated with mid-band. The question is not if, like you mentioned, we don't know if it will happen. I'm questioning more how it's going to go back up if you like. I mean, are we going to see a strong traction of upgrades? Or is it going to be like a very granular Phase 1 upgrade all these, the base stations, to mid-band, especially in the context of the current macro environment, lack of, maybe you can argue, applications. How should we think about this pace basically of upgrades that you foresee?

Yes. First, I believe it's important to acknowledge that a fully developed 5G network will likely require more sites than what we currently have for 4G. Even when comparing it to the total number of 4G base stations, we can expect an increase in sites for 5G. What we're observing is that discussions around 5G, particularly in a non-stand-alone context, will not provide access to essential features necessary for future digitalization and emerging use cases. To achieve ultra-low latency and higher speed capacity on demand, 5G stand-alone will be necessary. This transition is still in its initial stages. New use cases are expected to boost demand for upgrades and investments, whether it's generative AI or XR, both of which will create new traffic that necessitates 5G development. It's crucial to consider how we can profit from this. The network APIs we are developing will be vital in this process. When using devices that depend on extremely low latency, our network APIs will enable that functionality. We anticipate a gradual build-out over the next few years.

Thank you, Börje. Thank you, Francois, for that question. So we are now going to the next question in this Q&A session. The next question is from Alexander Duval at Goldman Sachs.

I just had a clarification on market outlook. You're talking today about scope for gradual market recovery this year and improvements next year. Just want to understand the main factors that will drive that kind of recovery. I would note, for example, in the U.S., you talk about a 50% decline in the market, or at least in revenues, and that's obviously one of the front-runners on 5G. One would assume that that would be followed by other markets that are a bit further behind also declining. I just want to understand what would drive that improvement into next year? And then I've got a quick follow-up.

Yes. I think actually Börje talked about a lot of those key drivers for exactly what you're asking about—the recovery. I mean we see data traffic growth continuing at very, very high speeds in North America and in other markets as well. That's a key driver because for an operator to deliver the customer experience they need, investments in the network will be required to cater for this. 5G, of course, also happens to be the most cost-effective way of delivering those gigabytes through the networks. Then you have the energy side and CO2 side of it as well, driving investments in more modern technology to get your energy bill down, not to mention the new applications that are coming on stream. We have seen new XR or VR devices launched by several players now, and once they become a bigger part of the ecosystem, they will drive very high demands on the network.

You also have to add that those are long-term drivers, the fundamental drivers, right? Short term, we also have the inventory adjustments, which are working their way through. In several markets around the world, you saw over 2021 and 2022, our customers built up inventory to manage an uncertain supply chain. This led them to have excessive inventory that has been working its way through the systems over this year. This will eventually run its course, and once they've run its course, we will be back to the fundamental drivers of demand for CapEx.

Yes, greatly appreciate the clarification. Just a quick second one. You talked in your release about the fourth quarter being seasonally strong from a margin perspective, and just wanted to understand all of the factors that feed into that. Obviously, you talk about a RAN market, which is now weaker according to the release, both on a global basis and in North America, which is a very profitable market. At the same time, you're talking about normal seasonality in Q3 on top line. So that would imply worse than normal seasonality in Q4. I just want to understand what factors give you comfort there? You just referenced, for example, the fact that there won't be as much of an adjustment in inventory. But I'm wondering if there are other factors that give you confidence.

That is one, for sure, the inventory adjustments where that depletion is coming to an end and normalizing. But we also see a mix effect here in Q4. This is the traditional seasonality that we always see. Also, it's a better mix of business, typically in the fourth quarter. It depends on, of course, how customers' spending patterns look. But we tend to always see that improvement in the fourth quarter. It's about how projects are concluded and how we deliver to customers to close the year. We typically see that inventory will improve, along with typical seasonality of our entire industry.

Okay. Thanks, Alex, for the question. Then we'll move further in the queue here. I have the next question from Andreas Joelsson at Danske Bank.

Maybe a slight shift in the questions, looking into the Enterprise side. If you could explain a little bit more about the reception you have got from this, the strategy that you have in this area from your customers, especially in the U.S. but also how to leverage this portfolio outside the U.S. Any comments on pipeline and if we can expect this growth that you have now to continue also for the coming quarters, that would be great.

Maybe we can divide it into the two components. So Enterprise Wireless Solutions continue to have a good growth rate. Of course, it is a little bit tougher market conditions due to the general economy, I would say. However, we see also a very strong development with a strong pipeline of products that we are bringing to the market now. We are still in the early phases of building up our go-to-market organization there. It is not just about increasing costs, but we are still not getting the full efficiency from our sales force on the Enterprise side. We see a very good collaboration with our CSP customers, and they are actually very excited about bringing these types of products to the market as they drive revenues for them as well. We have more work to do. Please remember that it is a different business model with a large part of deferred revenues. So we create a recurring business there, which will impact the P&L initially, but over time it will be a highly profitable part. I would also say on Dedicated Networks, we are still early outside of China. There are some use cases, imports, and some basic early manufacturing, but it's still a relatively small market around the world. If you compare it to China, by the end of last year, they had more than 6,000 dedicated networks deployed in China. In comparison, we see in the Western world, maybe we have about 1,000 to 1,500, which is significantly smaller. That points to the actual opportunity being much larger than we're servicing now. This will depend on establishing the use cases and the way we approach the market. So we see this as good potential for growth going forward, but we are still early on in that. If we look at our platform business in the Global Communication Platform, there we're having good traction, as seen in the communication APIs that we're in the market with today, and that's the old Vonage business, which grew 19% in the second quarter. Of course, that is impacted by the general economic conditions, so it has been going a bit slower than 2021 and 2022, but we still see a fairly good growth rate continuing. What we are very excited about is the network APIs. We showcased the first network APIs at Mobile World Congress together with three operators in Spain: Vodafone, Telefónica, and Orange. We are continuing dialogue with a number of leading operators on how to establish this network API market. We see excitement in the industry, and here we are shaping the industry landscape by driving the adoption of network APIs. We see that this is how network resources will be consumed in the future, and that will drive new monetization and create new revenue opportunities. We are excited about that, but it is still early in the development.

So maybe a follow-up just on what the Chinese enterprises see in these dedicated networks as a benefit that you are not seeing outside of China. And how can you help the enterprises see that benefit?

Yes. That's a great question, Andreas. What we see in China is that they are developing completely new use cases. What is unique with cellular connectivity, especially 5G, is to get reliable, always available, and secure connectivity. That's critical in enterprise applications. For example, take a manufacturing site. What we see is a full deployment of sensors. You can develop a full digital twin of the factory and make adjustments in the digital twin and then implement it very quickly and flexibly. That's one use case. Another use case that is also gaining traction is in-line inspection, where you do image processing of in-line inspection much faster and at higher precision compared to manual. Additionally, you see traditional use cases connecting self-guided vehicles. While there are some front-running manufacturing sites outside of China, the deployment of dedicated networks outside of China still results in higher cycle times, speed in manufacturing levels. We are seeing early signs outside of China, but I will say China is ahead in these new applications.

Thanks, Börje. And thank you, Andreas, for those two questions. So we are moving further in the Q&A session, and we have the next question from Peter Nielsen at ABG.

My first question relates to the Network gross margin, please. You've obviously talked about the mix impact. With the decline in North America and growth in India, that's clear. However, Carl has also stated earlier that the initial phase—the ramp-up phase in India—comes primarily with low margins, which should then gradually improve as you move further in that project. So my question is, when will we start to see the underlying margins, gross margins, in India improve and contribute to a better overall gross margin, irrespective of the mix changes we are seeing? I.e., when will gross margins in India improve in this rollout phase? And then my second quick question is just, Carl, could you tell us what the underlying run rate in IPR revenues is now adjusted for the one-off payment in Q2, please?

Yes. I can start with the IPR piece. The IPR expectation for the third quarter is somewhere between SEK 2.5 billion and SEK 2.8 billion. That's the number that we give. With a new signed contract, we are on our way towards substantial growth of the IPR portfolio that we have talked about before, aiming for around SEK 12 billion to SEK 13 billion next year, thanks to these new contracts. So SEK 2.5 billion to SEK 2.8 billion next quarter—that's where we aim.

And then the gross margin question. The reality is we're going from about a 35% share of North America to about a 25% share of sales. India goes from, I believe, about 3% to 16%. So it’s a big mix shift. We can still execute with a gross margin that's about 39% in Networks. There is a big change here in our sales mix. Of course, the details on contracts we're not going to discuss here, but we are already seeing a strengthening of the gross margin profile, delivering well according to our plans.

Okay. Are you good with that, Peter? Thank you for that question. Peter. And we'll move to the next question. That question is from Andrew Gardiner at Citi.

I had another one on your visibility into the recovery that you're calling for later this year and into 2024. Yes, I hear what you're saying in terms of the need for additional deployment and mid-band coverage, networks perhaps deteriorating a bit under the traffic load. All of that makes theoretical sense to me. But I'm just wondering if you're not yet seeing it in terms of firm orders from the customers, by when would you need to in order to see reasonable recovery in the fourth quarter? I know you don’t have the longest lead times, and you will have inventory on hand. But I suppose I'm just worried that if we're here in the middle of July and you're still not seeing the firm orders coming in, are we not setting ourselves up for a risk of disappointment come sort of September and October if indeed they haven't arrived? So just what—by when would you need to see the customers react and place the orders in order to see that Q4 recovery?

Historically, when we've seen these types of market situations, it's a very short lead time. It often depends on the specifics of the network situation for the customer. That’s why it’s hard to give you a specific answer. However, we know from the customer discussions we're having that many of them are starting to see deteriorating network performance that leads to churn. That gives me comfort that at some point we will see that recovery coming back. I can't predict the specifics. That's also why we never discuss backlog in our industry due to the relatively short delivery cycles on those types of contracts where you buy capacity.

Thanks, Börje. Did you have a follow-up, Andrew?

No. That's fine.

Thank you, Andrew, for that question. We will then move to the next question, and I would have Daniel Djurberg at Handelsbanken.

Two questions, if I may. Starting with the market recovery in North America: would it be fair to assume that this recovery that you anticipate will come back a bit earlier for some of your peers, including your neighbor issuing a profit warning today? Is it because you have more wins in urban areas versus the rural areas that might come a bit later?

I think you're better off asking our customers about that. We started to talk about this situation in North America already at the end of last year. It's developing a bit like we predicted and assumed. That’s why we said early on that we need to take actions on the cost side. We have tried to plan for this market situation we’re seeing in North America. Then, of course, they have built out networks in urban areas first. However, that's where traffic growth is the fastest as well. So how that ultimately pans out, I think is a bit difficult to predict. But what we see, and that gives me comfort, is that there is a need for network capacity. There is also a need to deal with the energy cost challenges that come out. Simply, you need more modern equipment to lower your energy bills for the operator. You will need newer equipment to deal with the CO2 challenges and commitments. So those factors combined make it reasonable to think that the recovery will manifest as we anticipated. Does the future always look like the past? No, it doesn't. But when you put those factors together, it is reasonable. If you extrapolate historic experiences, we've seen quick recoveries after tough times.

Fair enough, I agree there. And a question also, if I may, about the Enterprise. You talked about the Open Gateway initiative with your quality on demand that you showcased in Barcelona. Have you come any further in terms of monetization and the revenue models on both things and the progress there? If you could be a little bit more specific.

Yes. We continue our deep engagement with a number of front-runner customers around the world. We work very intensively on the initiative. What needs to happen is we need to have an abstraction layer in the network that allows a CPaaS to call up functionalities from the network. That's where a lot of groundwork needs to happen. We continue our work, and when we’re prepared for the first revenues, I believe we’ve said we should have a network API more in the market by year-end. That’s still my best estimate. Will it be Q4? Hopefully, but it could of course slip into early next year. That’s the time frame we’re working on.

Thank you, Börje. Thank you, Daniel. We are now moving into the last question of this Q&A session, and that question is from Sandeep Deshpande at JPMorgan.

Can you hear me?

We can hear you.

My question is, Börje, you talked about the buildup into an improvement in sales. One of the points you made on the buildup of improvement is that there will need to be further densification of the base stations. Given that we are seeing U.S. telcos cutting spending at the moment, have you had conversations with them that gives you any confidence that they're going to actually densify their 5G cells going forward? And then I have one more quick follow-up on the software business.

I'm not going to go into the details about customer engagements. However, we are seeing an increasing amount of discussions on network quality and the need for investment. That gives me comfort that we will see recovery eventually. Connectivity is a need. If you go today to a sporting event, I cannot upload a picture due to capacity constraints. We will need to increase capacity in stadiums, shopping malls, office buildings, etc. These are large use cases that will be deployed over the coming years. It will ultimately be critical for digitalizing society, enterprises, and further digitalizing consumers.

Yes. Just a quick follow-up on your Software and Services business. Where are we now in terms of restructuring? I mean, you've taken some charges in the first half of the year. You've seen some improvements in terms of the earnings in that business. Have all the actions been taken, and are the results awaiting to be seen? Or are there certain more actions needed in the second half to reach your goals?

Yes. Sandeep, I can say, of course, actions are ongoing. We have exited some subscale businesses, as we talked about before, and took some charges for that earlier. We are focusing on automating service delivery. We are taking out costs as part of the overall cost reduction effort, and we have commercial discipline to ensure that the new contracts are well scoped and well priced. All of that is happening continuously. We clearly see that breakeven, as we've had it as a target or commitment for the year, we will reach. We remain committed to at least breakeven for 2023. Then, of course, for 2024, we expect to see improved profitability coming out of all the actions that the current leadership in Cloud Software and Services are undertaking.

Thank you, Sandeep. Thank you, Carl and Börje. We are coming to an end of this Q&A session. I would like to thank you all for the good questions. For those going on summer vacation, I wish you all a nice vacation, and we'll see each other again during autumn. Thank you and goodbye.

Thank you.

Thank you.