Ericsson Lm Telephone Co Q1 FY2025 Earnings Call

Hello, everyone, and welcome to the presentation of Ericsson's First Quarter 2025 results. With me here in the studio today are Borje Ekholm, our President and CEO; and Lars Sandstrom, our Chief Financial Officer. As usual, we'll have a short presentation followed by Q&A. And in order to ask a question, you'll need to join the conference by phone. Details can be found in today's earnings release and on the Investor Relations website. Please be advised that today's call is being recorded and that today's presentation may include 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 our earnings report as well as in our annual report. I'll hand the call now over to Borje and to Lars for their introductory comments.

Great. Thanks, Daniel, and good morning, everyone, and thanks for joining us today. So we executed well in Q1 despite a challenging and fast-changing macro backdrop. Organic sales were stable with strong growth in market area Americas. Gross margin came in at 48.5%, and we delivered an EBITA margin of 12.6%. The improvement that we saw was broad-based across all segments and market areas, and it's really thanks to strong execution of our plans. Cloud Software and Services can call out a bit because it also had the first positive first quarter ever. We also continued to make good progress against our strategic priorities in the quarter by strengthening our leadership in mobile networks and announcing new partnerships that will accelerate the development of programmable networks with differentiated connectivity and open API architectures. In Mobile Networks, we expanded our leading portfolio, and we're on track to offer a portfolio of 130 radios this year that all support programmable networks. We also announced the first programmable network in Asia Pacific with Telstra in Australia. In Enterprise, we're seeing improved commercial traction as customers are moving from proof of concept into commercial deployment. One example here is Jaguar Land Rover that's implementing a private 5G network to fully digitalize their manufacturing, again, benefiting from the flexibility of a 5G network. Another is in Network APIs, where the top 3 U.S. operators have announced they'll launch a fraud detection API this year in partnership with Aduna. As you may recall, Aduna is the joint venture we announced last year to aggregate and sell network APIs. So we now continue to see the network API ecosystem scaling up with additional partners joining Aduna and the first early revenues coming in. So we're seeing good momentum on our strategy built on programmable networks offering differentiated services, which will allow new ways for our operator customers to generate new revenue sources on their network investments. Of course, the current macroeconomic turmoil and tariffs are impacting our industry, and we will not be immune. We've taken actions over the many years to actually build resilience into our supply chain, including how and where we develop and manufacture our products. So our focus remains on controlling what we actually can control, including, of course, pricing and spending. And the actions we've taken position Ericsson well to succeed across varying market conditions. Let me now comment further on the market development we saw in Q1. As you know, in February, we announced the consolidation of our regional structure. So this is the first quarter with 2 new market areas, market area Americas and market area Europe, Middle East and Africa. In market area Americas, sales increased by 20% year-over-year with good growth in North America, partly offset by lower sales in Latin America, where we, of course, face intense competition from the Chinese vendors. Networks grew strongly in North America, benefiting from our previous contract wins, but I would like to single out it's also from the accelerated network investments by the other customers. And it's worthwhile to remember that historically, North America is a frontrunner in the adoption of new technology and, thereby, often a leading indicator for other markets. Sales in Europe, Middle East and Africa declined by 7% year-over-year. And there, you have, of course, that Europe was stable, and that was supported by market share gains and network modernization. In Southeast Asia, Oceania and India, sales decreased by 17% year-over-year as a result of more normalized operator investment levels in India. And here, you remember, we had a relatively high level in Q1 of last year. Lastly, sales in Northeast Asia slowed. This was due to reduced customer investments in some 5G front-runner markets. With that, let me hand over to Lars to go through the financials in detail.

Let me start by sharing some additional insights about the group before diving into the segments in greater detail. In the first quarter, net sales reached SEK 55 billion, with organic sales remaining stable compared to the previous year. Reported sales rose by 3%, with a currency benefit of SEK 1.8 billion. North America experienced strong growth for the fourth consecutive quarter, while sales in Europe remained steady. However, sales in other markets dropped, especially in India, which had a relatively strong first quarter in 2024, and in the Middle East and Africa. IPR revenues saw a slight increase, with a run rate at the end of Q1 of approximately SEK 13 billion. The adjusted gross margin in Q1 was 48.5%, up from 42.7% last year, improving due to product and market mix along with cost reduction efforts. Operating expenses stayed flat at SEK 20.5 billion compared to the prior year, with a negative currency impact of SEK 0.5 billion being balanced out by lower amortization of intangible assets. Adjusted EBITA rose by SEK 1.8 billion to SEK 6.9 billion, with a one-time gain of SEK 1.9 billion recorded in Q1 2024. This quarter's EBITA was bolstered by higher gross income, resulting in an EBITA margin of 12.6%, alongside a currency benefit of SEK 0.4 billion. Cash flow came in at SEK 2.7 billion, slightly lower than last year, following an exceptionally strong Q4 with early payments. Regarding financial trends, while market conditions have presented challenges, we have observed a stabilization in sales, with the 12-month rolling sales bottoming out in Q3 2024. The gross margin improvement was driven by product and market mix, supply chain efficiency, and cost actions, with IPR growth also contributing. We saw favorable EBITA development, although it was partially offset by lower sales and slightly higher operating expenses. In terms of segments, Networks recorded a 6% year-on-year sales increase, totaling SEK 35.6 billion, including a currency benefit of SEK 1.1 billion, leading to organic sales growth of 3 percentage points. In the Americas market area, sales surged by 38%, benefiting from contract wins and accelerated network investments in North America amid some tariff uncertainty. Other market areas faced declines, with the most significant drop in India, where investment levels have normalized. The Networks adjusted gross margin was 51%, benefiting from previous cost reduction measures and product and market mix improvements. Adjusted EBITA for Networks was SEK 7.5 billion, with a notable increase in the EBITA margin to 21%, attributed to better gross income, though partially offset by rising R&D expenses. For the segment Cloud Software & Services, sales were stable, showing growth in core networks and software sales, which was offset by declines in Managed Services, leading to a 3% decrease in organic sales. Sales growth in Southeast Asia, Oceania, and India was outweighed by declines in other regions. The adjusted gross margin increased year-on-year to 39.9%, driven by a higher software share, commercial discipline, and delivery performance. The improved gross margin and lower operating expenses contributed to a positive EBITA for Q1. In the Enterprise segment, sales fell by 1%, with organic sales down 7%. The Global Communications platform saw a 9% decline as we focused on more profitable market segments and reduced activities in some countries, with expectations for stabilization in 2025. However, Enterprise Wireless Solutions grew by 20%, fueled by higher subscriber and product sales in Enterprise Networking. Gross income rose by SEK 0.5 billion across all businesses in this segment. Despite the sales decline, the Global Communications platform increased. Adjusted EBITA for this segment was minus SEK 0.5 billion. Now, looking at free cash flow, it was SEK 2.7 billion before M&A in the quarter. The decline from Q4 reflects the seasonality of lower Q1 profit shares and annual cash bonus payments, alongside an unusually high level of early payments in Q4. The cash flow improved due to our financial results but was partly offset by increased working capital, seasonal incentive payments, and inflows from IPR payments from licensees. Net cash remained stable compared to last quarter, affected by foreign exchange revaluation. Finally, concerning our outlook, the global challenges seen in Q1, which have continued in recent weeks, are already impacting currency rates and global trade flows. This situation could potentially influence customer behaviors and investment decisions over time, although we have not yet observed significant impacts. Hence, there is greater uncertainty in our forecasts across various areas, making future predictions challenging. Regarding sales, we anticipate that both networks and cloud software and services will align closely with average three-year seasonal trends in Q2, assuming partial resolution of the Lenovo patent litigation and current exchange rates. The existing currency volatility adds complexity to predictions. For instance, had the exchange rates at the end of March been applied to Q1, reported net sales would have been about 4% lower. Predicting Networks gross margin is also difficult due to the potential changes in tariffs and the uncertain macroeconomic environment and investment climate. However, as of now, we project network gross margin to range between 48% and 50% for Q2. This includes anticipated benefits from retroactive IPR, though we estimate a negative one percentage point margin impact from tariffs. We will benefit from earlier tariff mitigation actions in Q2, and if current tariff proposals remain unchanged, the Q2 impact could be somewhat more pronounced.

Thanks, Lars. So looking ahead, we remain confident of our strong competitive position in Mobile Networks and expect Enterprise to stabilize during the remainder of 2025. There is a growing customer interest in our programmable networks and many service providers need to invest in their networks to keep them competitive at current data traffic levels. North America, as I said before, is often a front-runner market. So the recovery in investments gives cause for optimism for our markets. This is, of course, encouraging. But ultimately, the exact timing of investments is in the hands of our customers. Of course, the external environment is also adding uncertainty, but we're prepared with the actions we've taken over the past few years. We continue to be laser focused on controlling what we can control and respond with actions that position Ericsson to succeed across varying market conditions. This includes pricing reflecting our leadership position, working on our cost base, as you have seen, we've done over the past 1.5 years, and how we have managed working capital, which we also have done quite successfully over the past few years, while at the same time, maintaining focus on long-term strategy execution. And this way, we ensure Ericsson can manage short-term market swings, but also that we're well positioned for the long term. So in closing, our strategy is working. Our momentum is gaining traction, high-performing programmable networks that enable differentiated connectivity are the future. This will allow our customers to increase monetization of network investments and actually create new growth areas for us. So before going into Q&A, I would like to thank all my colleagues for their really hard work in making these results possible. It's truly an outstanding team we have here at Ericsson. With that, let's open up for Q&A, Daniel.

Thanks, Borje. We'll now proceed to the Q&A segment of the call. Operator, we're ready to take the first question. The first question this morning will come from Francois Bouvignies at UBS.

So my question would be on the topic of tariff. So you mentioned this uncertainty and this 1 percentage point impact on tariff. Could you elaborate how the tariffs are impacting your business? This 100 basis points, a bit more details as to the building blocks of this impact? And importantly, with the tariff in mind, do you see any inventory build happening as we speak ahead of this tariff, i.e., could we expect a more negative impact in the second half of the year? That would be my question.

If you look at the building blocks, I think it's very much connected to the material flow that we have, both direct components, but also site material, et cetera, that we have in the complete delivery to our customers. And as you know, we have production today well diversified in different parts with production in North America, South America, Europe, Asia, et cetera. So that is the resilience we have built up over the time here. So that is why some parts of this impact is coming on these flows that we see based on the current decisions then that we had last Friday. And I think when it comes to your question there on inventory buildup, we had some inventory buildup already here in Q1 in our own sites to make sure that we have material in place and could handle a bit of the situation. But going forward, we don't see big impact from that also from a customer perspective. We don't expect too big impacts from this part.

I would only say one thing that that's part of Lars' answer is the ecosystem of component suppliers, right? That's where we actually invested quite a lot over the years to broaden that, but that's probably where we need to be a bit more active also to build, call it, the Western ecosystem in those components.

So we're now ready to move onto the next question please. The next question is going to come from the line of Andreas Joelsson at Carnegie.

And maybe a little bit broader question. You mentioned that there is a need for investing in both programmable networks and in the sort of capacity. But when you discuss this with customers, how do they balance that with all the uncertainty that we have all around the world? And that's not only not just looking for base stations, but also for 5G stand-alone, for instance, and the APIs, how do you see that progressing throughout the year, not just for the next quarter?

That's a good question, Andreas. The uncertainty we face is typical for investment climates that generally benefit from stability, and we seem to be at the opposite end of that. This leads to concerns. However, historically, during uncertain times, data traffic has continued to grow. Therefore, the demand for service providers to maintain cost-effective, high-performance networks is likely to persist. I have no doubt about this, as we've observed similar trends in the past. We're seeing significant advancements in network APIs, especially driven by early markets. The introduction of fraud APIs, developed collaboratively with three U.S. operators, plays a critical role in shaping this ecosystem. I believe we are still in the early stages of development, and the overall uncertainty doesn't have a substantial impact, so it's not driven by the wider economy. That aspect concerns me less. We are seeing a major industry shift with stand-alone networks. Currently, only about one in four, maybe one in three, or even one in five networks are converted to 5G stand-alone. Ultimately, to harness the capabilities of 5G, we need a solid mid-band build-out alongside the shift to 5G stand-alone. For instance, in Europe, less than half of the sites are ready for mid-band, and very few operators offer stand-alone services. Some major operators like T-Mobile in the U.S. have begun launching stand-alone services, with others like Jio and Singtel also moving in that direction. I believe this transition is essential since an operator's ability to deliver new services improves with stand-alone networks, which in turn enhances the customer experience. While I can't predict exactly how this will unfold, I am optimistic that there will be a shift towards greater build-out, increased capacity, and more stand-alone networks as we progress through the year.

We'll move to the next question please. Next question is coming from the line of Andrew Gardiner at Citi.

I have another question regarding tariffs, particularly about the slight increase in demand for the first quarter. I'm curious if you could clarify some of the factors as we approach the second quarter. There has been a pull forward in North America in the first quarter. Lars, you also mentioned the foreign exchange headwind we can expect in the second quarter. Based on my calculations using your usual approach, that translates to about a 4 percent headwind from one quarter to the next. Despite those challenges with pull forward and foreign exchange, your outlook suggests normal seasonality, indicating a stronger organic growth from quarter to quarter than we typically anticipate. Where is that growth coming from? Is the performance in North America still robust? Are we starting to see improvement in other regions, leading to growth above seasonal expectations? I would appreciate any insight on these moving parts.

I believe the focus should be on the impact of product mix rather than just pull-ins. The product mix was somewhat different, with more high-margin products contributing in Q1. Regarding Q2, the foreign exchange factor suggests slight growth, and there's also some influence from retroactive IPR. As for the markets, as you may recall, last year we experienced disruptions while ramping up in India and North America, which should start to reflect in Q2 numbers, with a more substantial impact expected in the second half of last year. Additionally, we see India returning to more typical levels in Q2. This is the context for our estimates regarding product and market mix as we head into Q2.

Okay. And just a quick follow-up. I mean how should we then think of that into the second half of the year? I mean you flagged now a stable market as opposed to prior expectations of growth based on the industry analyst forecast and with above seasonal organic trends in the first part of the year, does that not leave you at risk in the second half? What's your visibility into the customer demand at that point?

When it comes to outlook, as you know, we guide on the next quarter. And when it comes to full year, we don't guide on that. What I can say is that if you look at the full year and the flat RAN market, we maintain that view that we had also coming out of Q4. So that is a slight growth if you exclude China then in the RAN market and coming down from the high growth rates that we had during the second half last year coming down to more, call it, normalized levels. And then there is potential for growth. We see investment needs in markets like India and other parts of Asia. But then at the end of the day, it's the customer who decides when to invest, of course, but that could be some of the moving parts for the second half.

We will move on to the next question, please. Next question is coming from the line of Joachim Gunell at DNB.

So very impressive gross margins here anyway we look at it. And on the strength in North America, coming just back to what we just discussed, but can you help us dissect how much of the Q1 strength is a factor of pre-buy effects with, say, strong hardware sales, and there could be actually some potentially delayed services roll-out here since the services percentage of Networks revenue actually declined quarter-over-quarter. So will we see a change in the product mix at, for instance, AT&T, where you will become more service-heavy in H2 2025, and that could actually be a drag on gross margins?

We don't comment on specific customers, as you know. But as we have talked about before, we will see a gradual shift when it comes to the product mix for the second half with the rollout programs that we see today in the margin. But I think it's also worth mentioning that in Q1, yes, North America is a high proportion of the total sales that helps the margin. But what is really driving the underlying margin improvement is, it is broad-based. We see margin improvements in all market areas and all segments here in the quarter. So that is supporting and that is coming from the cost activities and productivity activities we have done for quite some years now and supporting the margin. So that is kind of the building blocks. I don't know if you want to add more.

No, I think you mentioned it well; the overall recovery or improvement is what truly matters. Over the past few years, we have made significant efforts to reduce our sensitivity to geographic variations. From a margin standpoint, it is more important that we have achieved improvements in our core business than anything else. While we touched on the aspect of pre-buying and product mix, the key factor is the hard work my colleagues have dedicated to enhancing operations, and that is what really counts.

Moving to the next question, please. Next question is coming from Sandeep Deshpande at JPMorgan.

I have a question about margins. My two questions are, first, regarding the strong margins you've reported, how much of the gross margin is attributable to the product mix? Additionally, for the guided margin of 49% at the midpoint for the Networks business in the upcoming quarter, how much of that is related to the new deal you signed, and how much is one-time due to back payments from that deal?

We don't separate the different impacts on margins. However, we emphasize three main areas: product mix, underlying improvements, and, to a certain extent, market mix. These are the three components we focus on. Regarding Q2, we don’t disclose the exact amount of retroactive payments, but they do have an impact and contribute to our outlook. Additionally, there is a slightly negative impact from the IPRs, which accounts for about 1 percentage point. These are the fundamental elements we observe going into Q2, along with some underlying organic growth for the quarter.

And on the IPR. I think it's also...

Also negative IPR you talked about. What was the negative IPR you talked about?

No.

To clarify the negative...

So negative is the tariff part.

Tariff. Okay.

Moving to the next question, please. Next question is going to come from the line of Sébastien Sztabowicz at Kepler Cheuvreux.

On the cost-cutting actions, where are you standing right now? Where are you putting, I would say, the focus those days? And how should we model the OpEx for the full year? Are you still targeting a broadly flattish OpEx for 2025?

When it comes to OpEx, if you look at what we are doing, we have continuously made decisions and we'll continue to make decisions. We live in a flat RAN market. And together with an inflationary market, that, of course, will require cost reductions to offset this part. So that is what we are working against. How it will exactly pan out is, of course, I cannot give you that full guidance, but that is what we are working towards. Then there can be some investments within R&D, specific areas within Networks that we address. But on the other hand, we have made decisions in cloud software and services with reductions. So those are kind of the big moving parts that we have.

Next question is coming from Fredrik Lithell at Handelsbanken.

Congrats to strong results. Can I please come back to the margin guidance for the second quarter? If you printed 51% for Networks in Q1 and you guide excluding the tariffs of 49% to 51% in Q2, which sort of is based on that you expect normal seasonal growth of around 8%. So I mean, if we take out the Lenovo part, are you expecting the margins to come down for the sort of the product side excluding the IPRs? Or how should we view that? I'm a little bit confused on this.

Regarding organic growth, as I mentioned earlier, the currency effect in Q1, when adjusted to the current rates, was about 4 percentage points. This is something to keep in mind moving forward. As for margins, we projected them to be between 48% and 50%. If we exclude the impact of tariffs, this is based on our observations of the product and market mix going into the quarter. Additionally, we expect some support from the IPRs. These are the variables we are considering. I won’t provide exact details on everything, but these are our estimates regarding product and service deliveries for the quarter.

Yes. I think you said at some point that you're also in Q1, you saw maybe not so much pre-buying in sort of before tariffs, but rather than that you had a positive product mix with sort of higher-margin products supporting the Q1 gross margin in Networks. Is that correct that you had that type of effect in the gross margin in Q1?

Yes. I think we had a somewhat favorable product mix, both in hardware and software in Q1. However, since we operate in a project business, there can be significant deliveries late in the quarter that can greatly affect the margin. We are currently working to communicate what we are observing.

I believe it's important to note that the product mix is influenced by traffic development in the network. It's difficult to clearly identify the factors at play. We observed a slight shift in the product mix towards the end of the quarter, as Lars pointed out. I wouldn't classify this as pre-buying; rather, it reflects changing needs within the network. We will have to see how this unfolds, but Lars provided the clearest insight on this matter.

Next question, please. Next question is coming from the line of Richard Kramer at Arete.

Just a question that hasn't been asked yet. Services within Networks has now declined for 8 straight quarters and 4 over the last 5 quarters in Cloud Software. Is this supply-led or demand-led? My question is really, are you making a deliberate change to try to push Ericsson towards structurally higher-margin products business? Or is this a function of customers having less demand for services or you wanting to do less services for them?

It's a good question, Richard. I will say it actually varies a bit. Historically, the network rollout has been a challenging business for Ericsson, and we have proactively tried to reduce that, which you can see reflected in the numbers. It's still an important part of our offering, so it won't go away, but I think focusing on higher-margin business is crucial for the long term. Regarding Managed Services, since 2017, we have been reshaping contracts to exit less attractive ones, which is part of our effort to streamline the portfolio. Additionally, in the past two to three years, there has been more pressure from customers to bring services in-house, resulting in several contracts being insourced. However, recent discussions with customers have been more positive. The complexity of networks is significantly increasing with the rollout of 5G, and we are beginning to see customers return, which is leading to an uptick in managed service sales, including a notable win this quarter. I’m becoming more optimistic about the opportunities here, driven by the need for resilience and reliability in networks alongside the increasing complexity. Therefore, the situation is somewhat mixed; part of it is due to our proactive decisions, while part of it reflects a market that is starting to recover. We may have reason to revisit your question if we succeed in Managed Services in the coming years.

Next question, please. Next question is coming from the line of Sami Sarkamies at Danske Bank.

I wanted to ask about market outlook on a regional basis. If you look at Q1 sales to other regions than North America still did not grow even though you continue to talk about pent-up demand. Do you have visibility on improvement during '25 with potentially black figures before the year-end in other regions than North America?

North America is experiencing growth, which is usually a positive sign for other regions. It's worth noting that Europe began to grow in the latter half of last year, although we're not isolating Europe, as it's grouped with other global areas. This suggests that there's a need for investments in networks. Additionally, Southeast Asia, Oceania, and India have shown improvements, with India stabilizing after a strong first quarter last year. Comparisons with last year may affect year-over-year results. Overall, analysts expect a flat market this year, reflecting a recovery from previous years of significant contraction. We're seeing signs of stabilization and potential improvement, especially in leading markets. While it's easy to speculate about the future, predicting it accurately can be challenging. We're focused on providing the best insights we can.

Moving to the next question please. Next question is coming from the line of Ulrich Rathe at Bernstein.

I wanted to discuss the tariffs specifically, as there are two key points to consider. The first is the one percentage point impact for the second quarter. During your prepared remarks, you mentioned that this figure was based on the situation as of Friday. However, there were new developments over the weekend, and I want to ensure I fully understand what this one percentage point indicates regarding the status of the tariffs. Does it reflect just the removal of the excess tariffs, or does it also incorporate the risk of reinstatement that emerged over the weekend? The second point is that it would be helpful if you could provide more details. I'm not sure how much you can disclose, but relevant questions include what percentage of U.S. sales is actually produced in the U.S. when considering value depth. How much capacity do you see available in the U.S. among third-party contract manufacturers that you can utilize, or have you already secured significant capacities? There are numerous questions here, and I won’t list them all, but it would be great if you could elaborate on the source of the resilience you mentioned.

If I begin, you can carry on. The 1% figure we provided is based on our assessment from Friday and our current outlook. This remains our perspective today as well. New information will continue to emerge, which may influence our situation, and we will need to monitor that. Our goal is to give our best estimate based on the recent changes. Regarding production, we have a site in the U.S. but do not disclose specific figures for where production is coming from. We have facilities in the U.S., South America, Europe, and parts of Asia, allowing us to adjust volumes between locations, though such changes are not instantaneous. Presently, we are not making significant adjustments because we're uncertain about our future position. Over the next few months, we will assess whether to increase or decrease production across various sites, but this largely hinges on the final tariff outcomes.

And I think it's also important to tie back to actually the first question. What is it that gives rise to the tariffs actually, components, and really site material, right? So those are the flows that we need to work on. And we need to create, I call it, a Western ecosystem in this, and that's going to take some time. But that is what really gives rise to the tariffs.

We have time for just 1 more question today, please, if we can move the next question in the queue. So the last question for today is coming from Felix Henriksson from Nordea.

Could you talk a bit about the competitive trends that you're seeing outside of the U.S.? And related to that, the negative organic growth figures that you delivered outside of the Americas, are these sort of related to broader demand weakness? Or has the competitive environment also gotten tougher?

If you look outside, we mentioned last year that competition from Chinese vendors has increased, and that hasn't changed for several quarters. We are experiencing some losses and gains in our market presence reflected in the numbers. I wouldn't call it a change; the market is just slower outside of North America. When we consider the wins and losses, we'll have to wait and see where market shares land. I do see some gains and losses evening out, but let's wait for the final market numbers.

So that concludes the call today. Thanks, everyone, for joining.

Thank you.