KONE Oyj (OTCPK:KNYJF) Q4 2022 Earnings Conference Call January 26, 2023 8:45 AM ET
Company Participants
Natalia Valtasaari – Head, IR
Henrik Ehrnrooth – President and CEO
Ilkka Hara – CFO
Conference Call Participants
Lars Brorson – Barclays
Daniela Costa – Goldman Sachs
Aurelio Calderon – Morgan Stanley
Klas Bergelind – Citigroup
Miguel Borrega – BNP Paribas Exane
John Kim – Deutsche Bank
Tomi Railo – DNB
Panu Laitinmaki – Danske Bank
Martin Flueckiger – Kepler Cheuvreux
Delphine Brault – Oddo Securities
Rizk Maidi – Jefferies
James Moore – Redburn
Natalia Valtasaari
Good afternoon, and welcome to KONE’s Fourth Quarter Earnings Call. My name is Natalia Valtasaari. I’m KONE’s Head of Investor Relations. And as usual, I’m joined here today by our President and CEO, Henrik Ehrnrooth; and our CFO, Ilkka Hara.
As in previous presentations, Henrik will start by running through the key highlights of the quarter and the full year, both in terms of our business performance, financial performance and also what we are seeing in the markets. Ilkka will then follow-up with a bit of in-depth review about the financials, and Henrik will end the presentation speaking about our outlook for this year. We will go into Q&A then and I would ask you all to limit yourselves to one question, one follow-up, so that as many as people as possible have the opportunity to ask their question.
With that, Henrik.
Henrik Ehrnrooth
Thank you, Natalia, and a warm welcome to our fourth quarter presentation. Today, we’ve again lot of interesting and exciting news to share with you. So going straight into the highlights of Q4. So Q4, we had a solid sales development now, particularly, if we look at the market conditions. So clearly, sales was at better level than it was in Q2 and Q3.
Our service business continued to perform very strongly. That is something we put a lot of focus on during the past year. And we have continued to drive very nice growth in both maintenance and modernization. The Chinese market was clearly very challenging in Q4. And that had an impact on both orders and cash flow. It’s clear that a lot has happened in China since end of Q4, and I would say that signs are much more encouraging now than they were just going back to November, for example.
We continue to successfully increase our prices in all of our businesses, which have been driving continued margin recovery both year-over-year and sequentially. And our Board of Directors have today announced that they will propose to annual general meeting a dividend over €0.75 per B share, the same level as the prior year.
So what about Q4? I would say Q4 performance was very much in line with our expectations. And we did see an improvement in profitability. Orders received at €1.9 billion, down about 11% in comparable currencies. It’s clear that Chinese market weakness had a big impact in this. Order book remains at very solid level of more than €9 billion, and if we look year-over-year up 5%. As I mentioned, sales return to growth now in this quarter, just over €2.9 billion and 2.9% growth here. Clearly services business was the key driver here and regionally was Americas.
What I’m most happy about is now our operating income increased 4.3% year-over-year to €367 million and adjusted EBIT improved from €359 million to €365 million. So a slight improvement here, even though margin was still down 0.5 percentage point from 13 to 12.5.
Cash flow was €33 million in the quarter, clearly not something we are happy with. So that is perhaps what was a disappointment in this quarter. And earnings per share the same as previous year. As we always say, one quarter is a very short period of time and now we have a full year to look back to on our performance. And it’s clear that 2022 had many different phases. Q1 started reasonably normally. In Q2, we clearly faced the COVID lockdowns in China, which meant that our sales suffered a lot because we almost lost a month of sales because the closure of our factory. And Q3 continued to be challenging now somewhat better Q4 if we look at profitability wise.
Orders received in that year €9.1 billion, down 2.5% in comparable currencies, which I would say is actually an okay result in an environment like this. Sales €10.9 billion, down 1.8%, of course varied a lot quarter by quarter and now returned to growth. Operating income down 20% to €1.31 billion and adjusted EBIT down from €1.3 billion to €1,077 million. This is clearly something we’re not happy about. And that’s why we have such a strong focus on profitability improvement, which we of course could see partly already in Q4. And cash flow €754 million, down from an exceptionally strong €1.8 billion before and EPS €50.
Now, what I will talk about a lot today is what — where we put our focus last year. And we can see that we made great progress in the focus areas we set for us, that again shows that KONE’s team when we set our mind to something we can drive good improvement that was again a sign of that last year. So I think the team retrospectively did a great job again.
As I mentioned, Board of Directors made a proposal of dividend of €75, same level as last year, which means of course we paying out now a bit over our EPS and provides a good dividend yield of 3.6%, but continued strong dividend a bit over €900 million that we will pay out again for last year’s result.
Now, we know that markets have changed a lot over the last years. It’s been about capturing opportunities where they have emerged. And therefore in a very changing environment, we set our focus on three specific thing during 2022. It was clearly about improving pricing. We’ve been talking about that a lot. Then, of course, by driving productivity, absolutely critical in an inflationary environment, an environment where costs are going up.
And then service business growth, because service markets have provided good growth opportunities, and that’s what we have really pushed for growth in that business. So how do we do? Well, price increases, did go well last year. And it meant that our margins of our orders received improved compared to sequentially and end of 2021.
So when we look at outside of China, we had set our self a target of getting our margins of our new orders to similar level where we were towards the end of 2020 and that is what we achieved. So great progress there. China, clearly more challenging. Also in our offering development and in our operations development, we focus a lot on productivity, and product cost, both we had clearly better improvement than in prior years. So again, great results there.
And I think which is very clear that we continued throughout last year, to have market leading services growth, both in maintenance and modernization. In maintenance, for example, we can see that our service base grew by 5.4%, whereas our revenue grew by 8%. So clearly, successful pricing 24/7 connected services, all of them contributed to having a sales growth that was 1.5x higher than unit growth. So overall, that was our focus during last year, and clearly we’re setting a very tight focus for this year to continue our positive development in these areas.
Most of what I think is familiar to everyone that the way we measure our longer term success is through our strategic targets. That’s a balanced way of looking at how we are developing all the areas that are important to us. In a great place to work, our employee engagement continued to be clearly above global norms. In a changing environment, absolutely critical to have motivated driven workforce.
Most loyal customers, we could see that our customer loyalty based on customer survey, continued the upward trend in both of our businesses, both services and new equipment and very broadly geographically. So what we’re doing clearly is delivering positive results from our customers perspective.
Our third target is to grow faster in our markets. We continue throughout last year to have market leading growth in services. And that is, of course, where we really put our focus. In new equipment, we really said that the first and most important thing for us is improving our margins. So pricing increases that we did. Now in terms of market share, we were about in line with markets very little bit, region to region, but more or less in line with the markets for last year.
Then our fourth target is to have best financial performance. It’s clear that this we are not happy with. Our current profitability is not something that is okay for us, something we want to improve and we are driving improvement there. And in sustainability, we continued our strong performance in environmental sustainability, in our diversity metrics and safety. In environment, we continue to get a lot of external recognitions for the work we are doing there. So continued good progress for us, and of course, a lot to do going forward. But I would say many good developments, but still on profitability a fair bit to be done.
Now, the other thing that we announced today, is that we are planning to renew our operating model. This is of course to improve our competitiveness, and be able to react even faster to market changes. So what are we doing? We are simplifying our operating model. As you know, KONE has always had a culture of strong local accountability. Now we’re driving even further accountability to our area organizations and our front clients. And at the same time, we want to continue benefiting from the global scale we have through our global product platforms, services platforms as well as our supply chain.
So why did we decide we want to do this. When we look at the past years, we can clearly see that the market environment has changed very rapidly. And situations have changed in a different way in different regions. Going forward, we believe that that will continue to be the situation. That markets will change and the development in North America were different from Europe or from Asia. And therefore, we want to drive even more accountability to our area organizations to be able to quicker make decisions to capture the opportunities as they emerge in order to drive better growth.
Also, as part of this, we are going from five geographic areas to four geographic areas. So two areas in Europe will be combined to one called Europe. And that’s part of this change. Now, as I mentioned already, what we’re really targeting with this is to better capture regional growth opportunities. It’s of course, about improving our competitiveness and our profitability.
With better growth, we can drive also better profitable growth. At the same time, also in an environment that we are, we also want to reduce our costs. So the target of this program is to reduce costs by €100 million, also to support our profitability development So those are some highlights of our financial performance, and how we performed and worked last year, and also the change in operating model.
Let’s next talk about our markets, how they developed in Q4. New equipment markets in Q4 globally declined. We can see that markets declined in each geographic area. So it’s clear that we could start to see the impact of increasing interest rates and lower consumer confidence that had an impact on, for example, market for apartments and housing.
North America, which has been perhaps the best performing market now declined clearly in Q4. Same with Europe, there, perhaps a bright spot continues to be Middle East. China declined by around 20% in Q4, and rest of Asia Pacific slightly, although there bright spot has clearly been India.
Now on the other hand, services market, we can see a much more positive development. That is why we’ve been putting so much effort in our services business. We can see that the maintenance market continue to grow as we’ve seen before. And with best growth in Asia Pacific and China, and modernization market now slightly lower growth than prior quarters, but still positive growth, which created again opportunities, which we captured quite nicely.
Now, let’s dive a little bit deeper into the China market in Q4. It is clear that Q4 was one of the tougher environments in China and pricing competition was very tough. We did see a lot of changes towards the end of Q4 with the abolishment of all COVID-19 restrictions, which had a lot of impact during the quarter. Now, if we look at all the statistics for Q4, we can see that most of them actually were worse in Q4 than the rest of 2022, except for completions. So we could start to see the focus on completing semi finished buildings, how important that is.
So if I — if we look at China, and how I see that the moment. It’s clear that Q4 was a challenging quarter. At the same time, towards the end of the quarter, first, we saw an abolishment of all COVID restrictions and opening with a market which we believe will have a positive impact now as the country goes through that current infection wave, which very far has done so already.
At the same time, we have seen a lot of policy announcements, to improve the situation for developers, to enable them to refinance themselves, to get financing to be able to drive the whole property sector forward. So those have clearly created much more optimism. And therefore there are encouraging signs for the market. Before the market really starts to now recover, we still need to see an improvement in consumer sentiment, which would then be a result of markets opening up and starting going better now that COVID restrictions have been abolished.
That’s what we will say also, you will see in our outlook, we are saying that we expect Chinese markets, yes, to decline for the full year 2023, but to start recovering towards the end of the first half as a result of all of these measures that already have been taken, but I will come back to that. So clearly, if I compare situation now, compared to, for example, November, outlook is — has clearly improved.
So that is about the market. So it was more about China. And with that, I’ll hand it over to Ilkka.
Ilkka Hara
Thank you, Henrik, and also warm welcome on my behalf to this fourth quarter result announcement webcast. I’ll go through our financials as normal and start with orders received development for the quarter. For the quarter, orders received was €1,944 million, down on a reported basis 9.8%, and on a constant currency basis 11.2%. This development was driven by China and the property sector, continuing to see difficult environment that Henrik already described. And as a result, Asia Pacific declined significantly in orders received.
Also Americas declined as well as we saw a slight decline in Europe, Middle East, Africa as well contributing to this development. At the same time, as we’ve talked about earlier, pricing has been at the center of our focus in this inflammatory environment. And also in fourth quarter, we continued to see our order margins improving, compared to last quarter, but as well as compared to last year.
In China, pricing continued to be challenging, but lower commodity costs contributed to this development. At the same time, in other areas, we continue to see good momentum with pricing. And as Henrik already highlighted, now, with the pricing actions we’ve taken, we’ve been able to see our orders margin recovering back to the level of where it was at the end of 2020. So very good development there. We’ve already highlighted the strength in modernization, pricing earlier, and we’ve continued to now see good development also in new equipment outside of China. So very pleased to see this continuing in a positive manner.
Then to sales. Sales for the quarter were €2.9 billion. On a reported basis, 5.2% growth and on a comparable basis 2.9%. From geographical perspective, strong development in Americas over 14% growth; Europe and Middle East, Africa growing at 4.8% and Asia Pacific down 3.9%, mainly driven by the development in China there. Also, China impact the new equipment, which declined 2.4%. But as highlighted already earlier, our services business continued. It’s very strong performance and as a result, maintenance grew 7.6% and modernization 11.4%. So very good performance on our services business.
Our adjusted EBIT for the quarter was €365 million. And the margin for adjusted EBIT was 12.5. We continued to see positive development here, it’s been a focus to be able to recover our margins. Now, towards the end of the year, absolute basis were slightly up and margin wise, we continue to narrow the gap compared to last year.
The initial results or the pricing actions that we’ve taken on orders are now visible in the orders we deliver in this quarter. That contributes positively. We continue to see the widespread inflation, creating cost headwinds having a negative impact in our profits and profitability. And also, the mix impact from declining China sales is impacting negatively our profitability.
Then cash flow which for the quarter was €33 million. And clearly we saw our working capital having a negative impact to our cash flow, down from last year’s exceptionally high-level of €525 million.
As I highlighted earlier, both at the end of last year, but also in conjunction with third quarter results, timing of the accounts payable had a negative impact to our cash flow and working capital and also overall the liquidity situation in China is impacting our customers and accounts receivable were up in the quarter. Also, I would say that orders received development in China, which was negative naturally contributes to the — our advances and therefore negatively on working capital development. But clearly, this cash flow is not something we’re happy about, and are expecting that in the coming quarters, we would then start to return to a more normalized development in our cash generation for the business.
But with that, I’ll stop and hand over to Henrik to continue with the market and business outlook.
Henrik Ehrnrooth
Thanks, Ilkka. So how are we seeing 2023? First of all, let’s start with the important China market. We expect that the Chinese market will declined by somewhat over 10% in 2023. Now, as I mentioned already, we expect that recovery will start towards the end of the first half of the year, as a result of the stimulus measures that have already been announced. So we’re not expecting anything new, we expect just these will start taking effect. And also when the economy improves, see better consumer confidence.
Rest of the World market grow clearly in Asia Pacific ex China, of course, driven by India, more stable in Europe, Middle East and Africa, of course, their Middle East, better than Europe, and decline slightly North America, of course, a good level in North America. Modernization markets, expected continuously growth in all regions and maintenance markets, good development that we’ve seen so far.
Trend to continue with slight growth in mature markets and of course, good growth in Asia Pacific. KONE’s business outlook for 2023, we expect our sales in comparable currencies to be at a similar level to the previous year. And we expect our adjusted EBIT margin to start to recover due to the better margins of orders received that Ilkka talked about in our orders, and also the continued solid development in our maintenance business.
Now, this whole outlook does assume that construction activity in China starts to recover towards second — towards the end of the first half of the year, as a result of the measures that have already been introduced in the property sector. Now, there are a number of things that are supporting our performance is, of course, the positive outlook for our services. The good development we have there. We have a strong order book. And we are having gradually better margins that we deliver from that order book. And of course, the easing commodity headwinds in Asia, particularly China, I would say.
What is burning the result, the rotation, the order book continues to be slower throughout the world. Because of more uncertain outlook and many developers slowing down their projects, or in some markets, still some material shortages. Then, of course, the anticipated decline in China’s new equipment market, we know that China is by far our biggest market and a very good market for KONE,
Then also, wage inflation will be higher this year than the prior years, and component costs are still going up. So, we always have for the components that we buy, there’s raw material part and the value added part, the value added part because of labor costs and other inflationary trends are driving up those costs still. But I think many good things and of course, overall expectation is that we will start recovering our EBIT margins.
Now to summarize. It continues to be good opportunities in services that we are focused on to continue to drive the good performance we have had and we are seeing positive results from profitability actions. But equally when it comes to pricing and productivity. We have a competitive offering. And our focus is to continue to drive long-term growth. And then we also take an action to further improve our competitiveness with a plant operating model renewal.
So with that, we are ready for your questions and comments. Operator, please?
Question-and-Answer Session
Operator
[Operator Instructions] The first question comes from the line of Lars Brorson from Barclays. Please go ahead.
Lars Brorson
Thank you. Hi, Henrik. Hi, Ilkka. If I can start maybe underscoring their guidance, we have four years history of giving earnings. Now you don’t I appreciate there are variable within China. But it’s all in the [indiscernible] on components, trying to understand how to think about raw material on [indiscernible]. It’s the mix here that European supply chain and wage inflation and that continues [indiscernible] business in China [indiscernible]. Just to frame that, we talked about €400 million headwind over the last 2 years and that should start to reverse this year. I wonder from a sort of total raw mat and logistics and components cost standpoint, can you help us a little bit on what that number might look like in the 2023 bridge? Thank you.
Henrik Ehrnrooth
Thanks. Thanks, Lars. First of all, I don’t know if it was elsewhere, but the line on our end was a bit a little bad, so slightly difficult to hear your question.
Ilkka Hara
First was guidance, and I’ll take the raw materials.
Henrik Ehrnrooth
Our guidance, I think we are being quite specific on our sales guidance, and also that we will start to see a recovery in our EBIT margin. Clearly there is some uncertainty still in the market that how will China market which we all know is very important to us to good and profitable market for KONE. How that will start taking off, but I still believe that we have quite a specific outlook there. So I hope that’s helpful to everyone the guidance we’ve given.
Ilkka Hara
Maybe I’ll then continue on the cost of raw material/component cost question. And as you said, so we are seeing raw materials, especially in China, having a positive impact. And that is something that we expect for year ’23. At the same time, as Henrik was highlighting that even though the raw material part of the component cost is coming down, then we’re seeing the inflation, in general, having a negative impact to this, value added parts of the processing cost to the components. And as a result, raw mats are a tailwind. But then due to this overall inflation, so the component costs are a slight headwind. So it’s not a huge headwind. So some tens of millions, but clearly a headwind still on an overall level.
Lars Brorson
Well, thank you, Ilkka. That’s helpful. Would it be fair to assume that the €400 million headwind over the last couple of years would reverse the over the next three years, which you could get a €100 million this year, just to help us a bit for our EBIT bridge for 2023.
Ilkka Hara
So first, I guess if I would know where the raw material prices for the next 3 years would go, I think there’s other opportunities that just elevate the business. But …
Lars Brorson
Just assuming current thought [indiscernible]?
Ilkka Hara
Yes, yes. That’s sort of a more of a joke. But so, all in all, in your bridge for ’23, as a result the components purchases that we’re making are a slight headwind. So even though the raw material comes down, then still the cost is a slight headwind for us as a result. So that’s the situation in ’23. Now, if it continues to go down the raw material part, then you need to take a view on the inflation. But obviously, if it continues to go down and inflation starts to come down as well, then it will start to be a tailwind as a result.
Henrik Ehrnrooth
And then, of course, we’re taking a lot of action to reduce our own product cost to the offering. And that’s, of course, something that is also supporting. So a lot of moving parts here. We’re looking at component cost, and then of course offering where we are driving some quite positive change.
Ilkka Hara
And maybe to add to that, as we talked about earlier, in conjunction with the earlier results, clearly in this cost environment also, the focus on scrutiny on product costs, for example, has been on a different level and we’ve been able to see quite a good development there. So it is something that will contribute positively going forward, being able to then counter some of the inflation that we see overall.
Lars Brorson
Briefly secondly, if I can. And finally, just on the market outlook, Henrik, I was quite encouraged to see new equipment in EMEA led this year and modernization clear growth. I think we were all breaking ourselves maybe something that was bit a worth. Maybe help us understand a bit better what you see in that part of your business? And secondly, within market outlook negative 10% for China, feels a bit conservative if we get a completion backlog [indiscernible] in that part of your business. Could you help us understand or frame how much of, shall we say, completion backlog is already on the books today versus an order opportunity in 2023 potentially? Thank you.
Henrik Ehrnrooth
That is order backlog, I would say, magnitude wise and that’s always going to be a backlog, but let’s say that’s probably close to a year of volumes in deliveries and half year of volumes in orders. But how quickly that come through, so that’s uncertain as always going to be a backlog, but if we get a better financing situation that could be [indiscernible] tailwind. But it’s clear it’s going to take some time before that starts improving therefore the first half of the year is likely to be more challenging.
When it comes to Europe, it’s clear that varies quite a lot bit, quite strong markets in the Middle East, in particular, of course with high commodity costs, they have a good situation there. Then within €, it varies between segments quite a lot of infra building. So it varies a lot market to market, but the good thing is that it continues to be opportunities to be taken.
Lars Brorson
Helpful. Thank you both.
Henrik Ehrnrooth
Thank you.
Operator
The next question comes from the line of Daniela Costa from Goldman Sachs. Please go ahead.
Daniela Costa
Hi. Good afternoon, everyone. Thank you so much for taking my questions. What is a follow-up actually on the margin question, and the second one is on the cash flow from operations. But maybe starting by the one a follow-up, maybe I didn’t fully grasp your answer there, but so you’re guiding for your margins to be slightly up. Your volumes are flat. Raw mats minus components seem like it’s not a big driver. So what is — is it some of the €100 million of savings already in that bridge? Is it mix? Is it sort of what do you assume for China margins? If you can re-explain — sorry to ask again about what drives that margin up? Because originally, I guess, I thought at least it would be raw materials, but it doesn’t seem to be the case. And then I’ll ask the second one afterwards.
Ilkka Hara
Thank you for piece mealing the questions, it’s much easier for us. So, yes, so as you said, volume-wise, we are quite flat with this guidance. Mix wise, it’s neutral in a sense that we continue to see good opportunities in services at the same time with the orders development that we’ve seen particularly in China, that has other side of the coin. Then it’s good to note that we’ve seen increasing orders, margins in the last quarters since third quarter of last year. So that’s obviously something that we will now deliver.
And as we go through the order book to new and new orders, it will have a positive impact to our results this year, and some of that will carry over to ’24 as well with the order book rotation is slower. Then negative side on that bridge is overall cost inflation. So for example, salary costs are continue to be on a higher-than-normal level headwind. And then, yes, there will be some cost benefits from the new operating model, but the €100 million we set as a target, the full impact of that is only expected in ’24, but there are some tens of millions that will help also in ’23 as we go through the program and implement the new structure.
Daniela Costa
Okay. That’s very clear. Thank you very much. My second question is regarding the cash flow from operations, and you talked about the key makeup. But looking at the amount of advances, as a group, it doesn’t look — it doesn’t look like a huge difference. So I guess it’s really the receivables — and can you talk about what’s going on in China? Is — was this a one-off in Q4? Do you expect to receive a big inflow from these receivables into the beginning of the year? If you could give us some clarity, I guess, sort of what’s the visibility you have of getting paid in China? Thank you.
Ilkka Hara
Well, first, if I think about item by item, the net working capital development. So clearly, our payables are coming down quite a bit compared to end of last year — sorry, end of ’21 as well as in the quarter. And that’s then normalizing, as I talked about the timing difference of the payables. Then on advances, normally, if we have a growing business in — they are actually contributing positively to networking capital, meaning that it is further negative. And now we don’t see that and orders growth in China is the key driver there. Elsewhere, we’ve seen a better development there.
And I think on a quarterly basis, as we always say, cash flow will fluctuate. But if you look at the situation. So overall, we’ve seen a more difficult quarters in China, starting from lockdowns in Q2 and the tightness in liquidity overall, that is impacting and also having the impact on receivables being the key driver there.
Daniela Costa
Very quickly, so no bad debt increases or is just the timing?
Ilkka Hara
Well, we’ve reserved bad debt as we see risks, but that’s not the driver for our net working capital development.
Daniela Costa
Understood. Thank you very much.
Ilkka Hara
Thank you.
Operator
The next question comes from the line of Aurelio Calderon from Morgan Stanley. Please go ahead.
Aurelio Calderon
Hi. Good afternoon, Henrik and Ilkka. Thanks for taking my questions. I’ll take them one at a time. First of all, is around the China market and apologies because I already asked this in the third quarter. But if I look at that slide, you show that you have slightly underperformed the market. So I just want to understand if that’s driven by you not going after every single project or what’s been the driver? Do you think you’re losing market share? Or do you just think it’s a conscious decision not to take orders at bad margins?
Henrik Ehrnrooth
So if I look at — for the full year in China last year, we are in line with the market or even perhaps slightly above and it varied quarter-to-quarter, as it usually does. In second half of the year, we had quite a lot of focus on pricing, and that contributed positively in Q3. In Q4, we continued to be very focused on making sure that we take orders that are high quality, i.e., payment terms are in place and also margins make sense. So that’s perhaps the biggest reason I would say it’s quarter-to-quarter fluctuation. We continue to have a very strong position there. In end of the last year, particularly second half, the liquidity situation of many of the developers is most challenged. And yes, one is to be very focused on making sure you take orders where you’re going to get paid. And that’s one of the things we kept high focus on.
Aurelio Calderon
That’s helpful. Thank you. And it’s probably a little bit of a follow-up on some of the previous questions around raw materials. But if you could confirm what the raw material headwind was in 4Q? Is the — sorry, that €200 million sort of guidance for the full year and that you provided in sort of the number where you ended up? I’m just trying to understand how much of the run rate in 4Q for margin should we assume heading into 2023?
Ilkka Hara
So the actual number for the full year is quite close to the €200 million that I’ve quoted already earlier. And as a result, it was a slight, I guess, headwind in fourth quarter, but not big enough to be called out individually. And your question on the run rate on fourth quarter, I think it’s also good to note, if you look at the seasonality that we tend to have quite a good margin always in the fourth quarter. And then given the timing of, for example, Chinese New Year and market development in China first quarter is a bit different. So you need to also take into account the seasonality in margins.
Aurelio Calderon
That’s clear. Thank you very much.
Henrik Ehrnrooth
Thank you.
Operator
The next question — sorry, the next question comes from Klas Bergelind from Citi. Please go ahead.
Klas Bergelind
Thank you. Hi. And Henry, [indiscernible]. So my first one is coming back on the cost side when looking at the China impact from lower raw mats. You don’t have much hedges here versus rest of the world. So you see the impact already now. So let’s ignore the component inflation for a moment and just zoom in on the romance. And if you look at the current spot level, Ilkka, I guess this is around €80 million annual potential tailwind. And I guess that component cost electronics likely elevated, but the raw mat impact in China, I think is 60% of our total headwind, which is now reversing already showed in the quarter. Is that a number you would agree with around €80 million, and then you add the tens of millions headwind from component costs on top. I’ll stop there. Thanks.
Ilkka Hara
I guess your net-net impact is a different than mine. So meaning that raw materials plus the inflation is a headwind rather than tailwind. If I understood correctly, you are proposing it to be a tailwind for us. Particularly in China, the raw materials are developing more favorably and maybe also the inflation in overall is a lower impact there. But then in China, we’ve seen also pricing be more challenging. So I’m not going to comment area by area this, but dynamic wise, it’s a bit different dynamic in rest of the world versus China.
Klas Bergelind
Yes. No, I was commenting on gross impact rather than net of pricing, but you might have a little bit of net of pricing then [indiscernible].
Ilkka Hara
Yes. In Rest of the World, yes, clearly, pricing contributes positively.
Klas Bergelind
Yes, fine. Yes, I might circle back on that. In terms of — my second one is on the orders margin where you say that now back to levels before end of 2020. That’s around 14%. When you look at the total backlog conversion now with China typically quicker versus EMEA, maybe 12-month Americas, maybe 18 months or more, that 14%. How quickly do you think you can convert that Henrik, [indiscernible] end of 2023 start of 2021? I’m just trying to think about the total conversion.
Henrik Ehrnrooth
Well, we haven’t quoted any specific numbers on what that margin was. And I think it was pretty clear in his presentation that when we talk about recovering margin, we talk about outside of China. In China, pricing has been more challenging, but at the same time, costs — the cost picture is clearly better in China than rest of the world. So from a margin perspective, it doesn’t differ that much, but clearly, recovery has been better in other parts of the world.
Then we also have to remember, mix that China is — continues to be a very profitable new equipment market. So when that share comes down, that’s from a mix perspective, a little bit is it negative for us. But with this current rotation, we are going to start gradually more and more this year, get the good pricing coming through, but that’s going to flow into 2024 as well, particularly larger projects in Europe and particularly in North America.
Ilkka Hara
And it’s good to remember that North America has been one of the markets where we’ve seen pricing developing most positively. So that gives us a good tailwind into ’24 from that respect.
Klas Bergelind
Thank you.
Henrik Ehrnrooth
Thank you.
Operator
Next question comes from the line of Miguel Borrega from [indiscernible] Exane. Please go ahead.
Miguel Borrega
Hi. Good afternoon, everyone. Two questions for me. The first one, just on your market environment guidance for North America and Europe, just wanted to dig a little bit deeper on that and your expectations. You said North America slightly down, flat in Europe. Can you just comment on your exposure in each market, I guess, in the U.S. is mostly non-resi, which is typically more resilient. So I was just wondering why you expect the market to be down. And in Europe, obviously, the resi market is quite weak. So also a bit surprised you think it’s going to be flat. So I’m just wondering what you’re seeing on the ground for each of the Western market.
Henrik Ehrnrooth
Okay. So North America, clearly, there is a lower share of residential, but residential is an important part of the market, but also, we are seeing a slowdown in the office market there as well. It’s clear that many companies are now thinking about their situation also developers with higher financing costs, there’s clearly less speculative construction right now. So that is what is impacting, but I would say it continues to be at a good level of the market there.
In Europe, it varies a lot. If you look at housing, yes, we can see that housing starts and approvals are coming down in most places, but there’s still a partner shortage in most of Europe. But what are the sectors that are improving. So when we look at Europe, we say Europe, Middle East and Africa. So it’s clear that Middle East, there are some very strong markets that are actually growing very nicely with a lot of opportunities. So Middle East is clearly the bright spot.
Then you can see quite a lot of continued infrastructure construction. And actually, some office continues to be pretty okay in many parts of Europe. So it varies a lot. And I would say, really, the strength comes from Middle East — is the big strong part.
Ilkka Hara
And maybe to add just to make clear that we are talking about the same thing. So when we talk about market outlook, we look at the total market for elevators and escalators there with a comment and mainly it means elevators given the volumes, then we don’t guide ourselves, our orders received. We only comment on sales. So that’s also good to note.
Henrik Ehrnrooth
Yes.
Miguel Borrega
Thank you. And then in services, can you give us a bit more color on pricing for 2023? I appreciate the color on Slide 6, where you grew your maintenance base by 5% volume, which leaves pricing roughly at 3% in 2022. I suppose if you update pricing by, let’s say, last year’s inflation, so how much are we talking about for 2023? And how easy is it to enforce these price increases? And then lastly, how–where do you stand on the connected units? Thank you very much.
Henrik Ehrnrooth
Thank you. So first of all, it’s not that 3% is how much we increase prices because if you think about our portfolio, where we are growing the fastest. It’s in Asia, particularly China and India, where average monetary value per unit is clearly lower what it’s in Europe or North America. So that’s, of course, making the value lower per unit, but then through successful pricing, 24/7 connected services and so forth is actually making it higher. So I think the gap is actually quite positive there.
If you look at prior to 2018, it was always — almost the opposite, the average value per unit. Now we are not going to comment so much on pricing yet because pricing for maintenance is happening right now for the year. So we can talk about in the first quarter more results. Only thing I can say it’s higher than prior year because of the trends. But then let’s see, we are always very cautious that we don’t comment on pricing going forward, but we are just negotiating with customers. So let’s see what the outcome is when it comes, but I would say I’m quite encouraged there. On connected units, we are now over 20% of all KONE units connected and roughly 15% of our total base is connected. So continuous good growth, and that also contributed more than a percentage point to our growth last year.
Ilkka Hara
And in the markets where we have maintenance contracts, which are tied to some kind of inflation index, naturally that index last year did not fully reflect yet the inflation we’ve seen because inflation was just picking up. So in those markets, the inflation now has been a bigger part and then gives a good environment for escalations. But as I said, we will come back on pricing when we look at both the fact what we’ve been able to accomplish.
Operator
The next question comes from [indiscernible] Credit Suisse. Please go ahead.
Unidentified Analyst
Hi. Good afternoon and thanks for taking my questions. I have two questions. And the first one is on pricing. Firstly, for China, in the presentation, you mentioned like-for-like new equipment prices declined slightly and pricing environment continues to be intense. And I’m wondering if you have observed any sequential signs of improvement or at least stabilization on China pricing. And now with China commodity prices now roughly reverse all the inflation we saw over 2021 and ’22. I wonder what’s your expectation on pricing environment in China going forward? And on the same topic more broadly for other regions, would you say like low teens is a set estimate of the price increase in North America and Europe on new equipment. And now with raw materials turning to with raw material, almost into a tailwind. But on the other hand, will the industry has been lagging its larger peers in building space in terms of pricing action. So net-net, I’m curious how you see the price environment developed in2023 in North America and Europe as well?
Henrik Ehrnrooth
I would say, first of all, we don’t get a comment on pricing environment going forward. That we don’t do because that is something between us and our customers. And then in hindsight, we’re going to look at what commercial strategies we deployed. In China, where we can say that, yes, pricing environment was challenging. Perhaps we started to see some signs of stabilization because it’s clear that with the environment for everyone has been very challenging even though, as you said, that steel prices have declined clearly there. So that is a helpful thing for China market, but pricing has been very tough there. So we expect — we have seen some stabilization now what we are going to see going forward. Let’s see.
Unidentified Analyst
Thank you. It’s very helpful. And my second question is on maintenance conversion rate in China. If I remember correctly, you previously mentioned about 60% for co-owned brands. So I’m wondering what is the road map for conversion rate be developed and catch up with other reasons going forward in the mid-term. Thank you.
Henrik Ehrnrooth
So pretty much the same level last year as previously it’s clear that we are taking a lot of action to improve conversions and retentions. We know that the market there is very competitive and a lot of independent players. So through value-added services, through connected services, those are, for example, ways how we can improve both conversion and retention. And also, we are seeing that where they’re starting to deploy condition-based maintenance, where you can use more connectivity, and you can therefore reduce your visits that there is a better situation but it’s still only a few cities that have this. And we’re going to start to see a gradual increase in that, but that’s going to take some time. So there are sort of these actions that are on the table to be able to improve conversion. So I think regulatory environment also is an important factor there.
Unidentified Analyst
Got it. Thank you very much.
Henrik Ehrnrooth
Thank you.
Operator
The next question comes from the line of John Kim from Deutsche Bank. Please go ahead.
John Kim
Hi. Good afternoon. Thanks for the opportunity. I was wondering if we could pivot back to China for a second. Some color or context on the following ideas or topics, when you think about broad based stimulus, are there specific programs or initiatives perhaps we should focus on. I’d also be interested to hear about kind of adoption of the newer lower ASP product that I think you had mentioned in the Q3 call, do you find that the market is evolving to a lower ASP? And how should we think about that when we think about the market on perhaps a 2 or 3-year view? Thanks so much.
Henrik Ehrnrooth
Thank you. So when you think about the China market that what has been important, if you look at last year, the biggest challenge in the market was clearly the liquidity for developers. Three red lines policy was a very strict rule. And therefore, developers that had a weaker situation just didn’t get financing and they were unable to refinance or even restructure themselves. That has changed. That is perhaps the most important thing that developers, both private and the ones with state backing are able to refinance themselves and get financing. They will, of course, first need to get their bonds refinanced and all that, and then we think the market will start to flow better. But that is perhaps the most important thing.
And it was really in November, the 16 point plan that was announced by the government that had many of these elements in there. And we can also see the importance of three red lines policy has been declining. It’s clear that the developers, many of them need to strengthen their balance sheet. But as I said, the most important thing that now they are able to do it. They weren’t able to do it during last year. Before we start to see an upturn, the other thing we will need is consumer confidence for consumers again to have confidence to buy apartments. And that probably is going to take some time when the economy starts to pick up now when COVID policy have been loosened.
So there seems to be some encouraging signs now already during Chinese New Year of consumers’ propensity to spend and be out there. So I think those are the important things we need to see.
John Kim
Great. And could you touch a little bit about the lower ASP products for the newer products you’re introducing?
Henrik Ehrnrooth
So also, that has been a feature in China over the past years is that perhaps the market that has done better has been the more affordable end of the sector. There are some opportunities also in more valuable products, but that has been perhaps where the highest volumes have been. So yes, we have renewed our offering for lower end and make sure that cost is at the right level. So we start to see good demand for that, of course, in the market context that we have right now.
John Kim
Okay. Thanks so much.
Henrik Ehrnrooth
Thank you.
Operator
The next question comes from the line of Tomi Railo from DNB. Please go ahead.
Tomi Railo
Hi, Henrik. Tomi Railo here from DNB. Two follow-ups, actually. Did I hear correctly that you said the price increases will be higher this year compared to last year?
Henrik Ehrnrooth
I said very clearly that we are not commenting on price increases for this year. I’m saying — what I did say a little bit for is that on maintenance side, when it comes to annual price escalations that they are encouraging signs.
Tomi Railo
Got it. Thank you. It was actually you commented that. Secondly, in China, do you see any risk that the customers are starting to ask for lower prices because steel prices are moving down. I know that the market has always been practically challenging, but any risk that the prices are going down.
Henrik Ehrnrooth
Well, I can say, first of all, that, of course, it’s a very competitive market, and it’s where market pricing will set. And of course, everyone need to look after their profitability. So again, I would say what has been encouraging is how costs have improved, and that has helped margins sequentially in China. And now what the price is going to be going forward, I think, let’s see, to be successful there one is to continue to have a very competitive offering, great field operations and service, I believe we are very strong in those points. So those are things you need to have in place to capture the opportunities. But again, I’m not going to comment on pricing how we think that’s going to go this year. That’s — that we had to see it then in hindsight.
Tomi Railo
All right. Thank you.
Henrik Ehrnrooth
Thank you.
Operator
The next question comes from the line of Panu Laitinmaki from Danske Bank. Please go ahead.
Panu Laitinmaki
Thanks for taking my question. I just wanted to ask about EBIT margins in China and rest of the world. Are you able to kind of directionally comment on where China profitability was compared to the rest of the group in Q4 and in the full year of ’22?
Ilkka Hara
Yes. China for fourth quarter as well as the full year was accretive to earnings. So its margin was above group level slightly.
Panu Laitinmaki
Both Q4 and full year? Okay. Can I just ask us what about the sales mix? Is it still like 85 new equipment, 15 services as you commented in the past.
Ilkka Hara
Yes. It hasn’t changed from that.
Henrik Ehrnrooth
Right, yes. Directionally. it’s like that, yes.
Panu Laitinmaki
Okay. That’s very clear. Thanks.
Henrik Ehrnrooth
Thank you.
Operator
The next question comes from the line of Martin Flueckiger from Kepler Cheuvreux. Please go ahead.
Martin Flueckiger
Yes, thanks gentlemen for taking my question. I’d like to come back on the raw material price issue. Now if we could talk a little bit about steel prices in the various regions in 2022, so backward looking I understand that what you said about the China development for steel prices. What did you see in Europe and in the States? And what is it that makes you hesitant to fully answer I think the first question of this call, which was at current spot prices, what would this imply in terms of head or tailwind to you on in terms of raw material costs? That’s my first question.
Ilkka Hara
So I guess if you’re asking about ’23, then, as I said already earlier, so yes, overall raw materials and obviously steel in different formats is by far the biggest one. It is coming down and it’s contributing positively. At the same time, then the processing cost because we don’t really buy that much pure raw materials, but rather components made out of those. So the inflation has driven the processing cost to value added part up. And as a result, the component cost is a slight headwind. It’s not a huge one, but a slight headwind in ’23.
Martin Flueckiger
Okay, got it. Thanks. And then the other one is also a clarification question. Regarding 24/7 Connected Services, if I understood you correctly, because the line wasn’t always clear. The contract penetration rate is above 20% now. Is that correct? And I also heard another number like 15%. If you could clarify that, please, sorry.
Henrik Ehrnrooth
Sure. Sure, Martin. So we are saying over 20% for KONE equipment. And if we take the whole portfolio, we are roughly 15%.
Martin Flueckiger
Okay. Thanks.
Operator
The next question comes from the line of Delphine Brault from Oddo. Please go ahead.
Delphine Brault
Yes, good afternoon all. Thank you for taking my questions. I have two, if I may. First, a follow-up question on the working capital. When do you believe you will come back to a more normalized level in working capital? Is it in the course of 2023? And the second question I have is on your reorganization plan. You mentioned 1,000 job reduction. Can we have some granularity maybe by region and by segment?
Ilkka Hara
Maybe I will start with the working capital and maybe Henrik you want to talk a bit more broadly on the operative model changes. So working capital, well, it depends how you look at normality. We are now round about in working capital on 2019 level. So it is quite negative. It just was a lot more negative and now came down. And naturally, we don’t guide working capital as such. But what I do expect is that as we said there is measures that we expect to be impacting China market. They will also have a positive impact to liquidity available to property developers. So I expect those to continue to then help to recover the China market from a liquidity perspective and then having a positive impact also to our working capital, but after the beginning of the year, I expect more normalized development thereafter in working capital.
Henrik Ehrnrooth
When we look at our renewal of our operating model, as you said, it impacts about roughly 1,000 jobs globally. That will be — we haven’t given a breakdown of that regionally, but it will impact all parts of the world when we are simplifying the organization. So therefore, yes, it will be a global program for us.
Delphine Brault
Okay. Thank you.
Henrik Ehrnrooth
Thank you.
Ilkka Hara
And maybe good to note that due to the legislation, we just gave a number for Finland, which we had to give out. So that’s why there’s one specific data, but not the others.
Henrik Ehrnrooth
Yes. Finland is about 150 people and then 850 rest of the world.
Operator
The next question comes from the line of Maidi from Jefferies. Please go ahead.
Rizk Maidi
Hi, Henrik, Ilkka. Thanks for the time. Just the first one is a clarification really. So if you just talk on a gross impact. So you said [indiscernible] you said component cost is tens of millions of headwinds. Are you able to quantify the easing cost headwinds in China, please? And also the wage inflation, is that still 1 percentage point faster than normal wage inflation for [indiscernible].
Ilkka Hara
I guess on the cost headwind part, Henrik, now you’re flipping slides …
Henrik Ehrnrooth
Sorry.
Ilkka Hara
… so to speak. So the cost headwind, we haven’t broken down that to a more granular level. Obviously, China is a big part of the overall manufacturing and as well as deliveries but we haven’t commented that in more detail. Then remind me about your second question, sorry.
Rizk Maidi
Wage inflation.
Ilkka Hara
Of course, it’s good. So yes, we are expecting wage inflation to continue to be higher than normal level. and also higher than what we saw in ’22. So we are roughly speaking over €100 million in wage inflation as an extra cost as a result. So instead of 1%, maybe 2% plus.
Rizk Maidi
The second one is, historically, the growth in your order book at the beginning of the year, has historically correlated quite well with the organic revenue or organic, so the growth in local currencies that you’re able to achieve. In this case, you’re entering 2023 with 5% growth in the order book. and yet you’re guiding for flat revenue development. I understand that there is some delays in construction sites on both sides of the Atlantic. There’s some sort of component issues that refrains you from that, but how can we sort of explain this discrepancy between the way you guide revenues versus your order book growth, please.
Ilkka Hara
Yes, the main contributor there, if you just look at the headline number, I agree with you. But as Henrik described, both the tailwinds and headwinds — so on the tailwind side, we are seeing order book rotation somewhat slower in ’23. And it has resulted — so if you think about the mix where we’ve seen the growth fastest rotation in the order book has — and is in China. And there, we’ve actually seen a decline in orders received. And then the growth has been –especially in North America, where we’ve the slowest order book rotation. So that’s impacting overall then the order book conversion to sales, especially in the new equipment and in larger major projects.
Operator
And our last question comes from the line of James Moore from Redburn. Please go ahead.
James Moore
Hello, Henrik. Okay everyone. There are lots of moving parts behind the EBIT margin this year. And I’m afraid I’m going back to some of them because I had a bad line, maybe just me, but I couldn’t [technical difficulty]. So currently, have you mentioned that it was [technical difficulty] or so positive last year? I’d expect the €50 million, €60 million negative impact to EBIT in FY’23. [Technical difficulty] firstly?
Ilkka Hara
It’s not that big of a driver in ’23, the currency. So that’s why we’re not calling it out.
James Moore
Okay. So sort of small — a small negative.
Ilkka Hara
And also, remember that now this time, we’ve normally given maybe more specific guidance. Now what we are saying is that related to first revenue that is on last year’s level and as well as then on profitability that it improves — expected to improve in ’23 and the currencies are not having a big impact to profitability. So that’s why we’re not guiding also currencies as such. But it’s clear with weaker dollar and RMB compared to euro, that’s a bit of a headwind from a translational perspective. That’s clear, yes.
James Moore
Okay. And the second one is on savings. Could you help me with the timing? I get the message a bit this year, more next year, but is it €30 million this year, €70 million? Or is it €10 million this year, then €60 million then a spill of €30 million into FY ’25? I’m just thinking from a bridge perspective, if you could help us with the €100 billion.
Ilkka Hara
Some tens of millions for this year. The idea is that …
James Moore
[Multiple speakers] 2025?
Ilkka Hara
The idea is that this renewal will be completed during this year, which means it should be fully in place from ’24 onwards.
James Moore
So you would or you would not expect any impact in the FY ’25 bridge because there’s a difference between a running rate at the end of ’24 and all achieved a bridge in ’24?
Ilkka Hara
So run rate should be full at the end of this year, yes.
James Moore
Okay. So nothing in the bridge in ’25. That’s great. Thanks. And just lastly, I get the message on raw material and components together when you’ve talked about raw material in the past, have you always talked about raw material and components together? I know you able to say what the pure raw material gross positive would be this year?
Ilkka Hara
In the past, we spoke really focused on raw materials. And it was — because the value added part was more stable, and it didn’t really have a meaningful impact. Right now, it actually has a very meaningful impact. So therefore, we are now guiding a bit differently because purely just looking at the raw material doesn’t really tell what the impact is to our profits and profitability. So that’s why we are now commenting it slightly differently.
James Moore
But going back to class and others, and I had €80 million, that sort of number if one was to look at the raw material on a standalone pure raw material basis with a sort of high double-digit number being an appropriate positive, but that is you buy a slightly bigger negative on the componentry side.
Ilkka Hara
I guess what I was saying was that we have some tens of millions of positive from raw materials and then a opposite inflation item. And as a result, net-net, it’s a slight negative, but not big enough to be called out.
James Moore
And then lastly, if I could. I think it was mentioned about the adjective flight when it came to margin expansion for FY ’23. Is that an adjective you used or is that something that somebody injected into their question. I just wondered if you is any way you can quantify the consensus is 110 basis points. Is that broadly in line with your thinking?
Henrik Ehrnrooth
We are saying very clearly that — we are saying it EBIT margins are put it in front of us here that the EBIT margin is expected to start to recover as a result of the margins of orders received and the good performance of our maintenance business. That’s what we are seeing right now.
James Moore
Okay. Thank you very much.
Henrik Ehrnrooth
Thank you.
Operator
Thank you. There are no further questions. I will hand you back to Natalia [technical difficulty].
Natalia Valtasaari
Thank you. Thanks everyone for dialing in. Thank you for the questions. I hope you found the call informative, useful. I hope you got the answers that you were looking for. If you do have any follow-ups, please feel free to reach out to the team or to me. We are here to answer them. And otherwise, I would like to wish you a great rest of the day.
Henrik Ehrnrooth
Thank you, everyone.
Operator
Thank you for joining today’s call. You may now disconnect your lines.
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