Telefonaktiebolaget LM Ericsson (publ) (ERIC) Q2 2015 Earnings Report, Transcript and Summary

Welcome to the Ericsson's Analyst and Media Conference Call for their Second Quarter Report. To view visual aids for this call, please log on to www.ericsson.com/press or www.ericsson.com/investors. [Operator Instructions] As a reminder replay will be available one hour after today's conference. Peter Nyquist will now open the call. Please begin.

Thank you, Maria and welcome to today's call. And today as always I have our CEO, Hans Vestberg with me and our CFO, Jan Frykhammar and our Head for Communication and Marketing, Helena Norman with us today to answer questions and make the presentation. During the call today, we will be making forward-looking statements. These statements are based on our current expectations and certain planning assumptions which are subject to risk and uncertainties. The actual result may differ materially, due to factors mentioned in today's press release and discussed in this conference call. We encourage you to read all about these risks and uncertainties in our earnings report, as well is in our annual report. With that said, I would like to hand over to you, Hans. Please

Thank you, Peter. Let me start with some of the key developments in the quarter. I think that what we're seeing right now that the industry is really start focusing up on 5G and it's not only the industry we see lot of course other industries having a great interest and see how 5G will be developed and standardized, everything from car manufacturers to logistic companies, pharmaceutical companies, et cetera. All have a key interest on 5G and we probably have announced more collaboration this quarter than we have done for a quite a while. We have both announced KT Korea Telecom, SoftBank, Turkcell that we'll work close to. But of course we work with many others as well but we see these now formalizing as a very exciting area for the future and especially how the industrial Internet will work, or the mobile broadband for industry, so that's good. I think that's not only thing, I feel that we are in a good position here, we are really early on here, we have been working with 5G for quite a while, so that seems really good for the next generation. Consolidation continues especially in this quarter has been more on the customer side, adjacent consolidation but also industry consolidation happening and a lot of talks. Again very much logical given where we are in the industry and the transformation we see in this industry and how it can evolve. Currency we have talked a lot about -- I mean you can say that we continue to see currency movement in the second quarter here. We didn't see the major sort of currencies for us and Swedish krona to dollar shift so much but there are the currencies in the markets where there've been financial crisis or et cetera, which means that the currency are moving and that's -- we are in 180 countries, of course we feel that that it is a fairly important development in the quarter, as well. Finally we present to them the publicized report in July or in June, couple of highlights, the data growth is continuing 55% up. We are now predicting 3.7 billion LTE subscriptions by 2020. We are at 600 million, so of course it's almost 3 billion more in the next four years. And we see also a doubling on the smartphone subscriptions, we are at 2.6 billion right now, so north of 5 billion smartphone subscriptions in 2020. And of course important fact, just reiterate the speed that we want to see in the next five years in our industry and also that 4G is going, I would say quicker than we thought. Looking at our self, we are after three quarters of decline in North America, stabilized the North American business. We had sequential growth on 19%. They're still operating on a lower level for the external, things that were discussed before but we clearly saw a stabilization on the revenue levels for mobile infrastructure. The other areas are services, support solutions, they have all the time been in good sort of growth and additions. But it has been the mobile infrastructure mainly. What else? We saw also that year ago regarding the patent litigation with the large handset manufacturer. We took further steps in the second quarter. A couple of litigations in Europe was opened in the quarter. We are not there with any agreement with them, we're of course trying to get that agreement outside the court but right now we are not there, and that means that the court process will define the value of our patent in this cross-license discussion. Key development of course the recovery of networks margins in the second quarter compared to the first, we'll come back to that. Then of course clear signs of our company transformation, good growth in the target there as again, we highlight always OSS/BSS here, but actually all the [part] there is going well. OSS/BSS of course being the largest, of course adding the most to the absolute growth of the company. Activity level on the efficiency -- global efficiency program is very high. We saw in the first quarter some activities much more in the second quarter. Some 4,000 people left the company, that's excluding the Swedish reduction that the headcount will leave in the second half of this year, when it comes to reporting. So yes, high activity and that just also in the restructuring charge that was extraordinarily high in the second quarter was SEK2.7 billion. Looking quickly at the P&L than what's happened growth of 11%, negative growth in constant-currency was 6% very much like this first quarter similarities also in explanation, North America even though very sequential growth they are on the lower level compared to last year. Of course first half year 2014 was very strong for North America when it comes to investments. Other than that Japan is also weaker when it comes to investment at the moment, it goes in cycles but right now Japan is a large market for us, investing there, and we see the same trend for the gross market. It's India, its China, its Mainland China, its South East Asia, the Middle East all of them are growing well. Operating income SEK6.3 billion excluding restructuring some 10.4% operating margin compared to 4.2 a year ago and if it were compared to the first quarter of course excluding restructuring, a big improvement and even including restructuring also an improvement on bottom line. If we then look at the region and sales quickly are highlighting year-over-year we see the same countries, bases or regions Middle East, India, Southeast Asia and Sub Sahara having growth over 40% all of them, India 35% and then you see North America being negative 4% and of course in constant currency that's far bigger but there we see the stabilization as we said and that we can see when we look and the sequential growth where North America has a biggest and absolute number sequential growth with 19% in sequential growth but also Middle East, North East Asia has good growth and South East Asia has good sequential growth. And then finally you can see that compared to the first quarter then India is declining somewhat sequentially down 14% still from a level of growth rate of 85% to 100% we have seen but a little bit lower volume in the second quarter compared to the first. By that I hand over to Jan.

Thank you Hans, hello everyone, so then if we just go through this some of the highlights of the P&L to start with, gross margin of 33.2% in the quarter obviously heavily impacted by restructuring charges, if we adjust for those restructuring charges we had also decline compared to a year ago of approximately 1.5% and compared to Q1 1.2 percentage points and if we stay there for a second we can say that compared to a year ago we have obviously lower IP or revenue that is explaining both sequential decline as well year-over-year decline but also then the business makes shift more so a comment for year-over-year but also impacting sequentially and the business mix by that I mean lower capacity business in North America and more 4G coverage deployments in Mainland China, and then year-over-year you also have a slightly higher services share. All in all you can say that second quarter had higher hardware share of the business and that the impact to the gross margin. If we stay a second on the operating expense because we have two bridges on the operating income so I don't think to comment that here. But I think operating expense then of 17.7 in the quarter, if we remove the 1.6 billion that we have done in restructuring charges it's 16.1 compared to a year ago of 15.6 that's up approximately 4% in constant currency slightly down. So I think that's a good sign that we start to see underlying OpEx run rate coming down now. And also of course if you look at the sequential performance here I mean as Hans mentioned that the impact of the reductions in Sweden will start to impact here during second half of the year. If we look at the operating income year-over-year, so compared to Q2 2014 you have that on this picture and you can see then that compared to a year ago we have the most of the improvement is related to FX and the movements, the strengthening of the U.S. dollar mainly towards Swedish krona, and then we have some headwind items then around the IP, sort of mentioned the business mix with North America and China, I've also mentioned and then some positives on efficiencies and this one-time capital gain that we had related to the sale of a real-estate. So all in all year-over-year very much thanks to currency and continued work on efficiencies. If we then compare with the first quarter then we obviously have a bit of an impact on the hedge as well as evaluation of the hedge contract but I think underlying what is fundamental here is that we start to see a better leverage in the company now with getting benefits from the higher volumes and then starting to see OpEx coming down run rate wise. So I think important leverage there in the sequential improvement. Then if you take the stage growth and FX impact on some dimension a lot of the Spain side I think that what is important to say here is that U.S. dollar continues to be very important currency for us we have been between 40% and 45%, I think we were at 44% on top line in Q1 now we are in 45% of top line being U.S. dollar, so by far the most important currency for us. And you see also that the delta between reported and constant currency has started to decline with a few percentage points in the second quarter. And of course the bigger impact in terms of the U.S. dollar being strengthening towards decision happened here in the second half of 2014. So if business volumes stays then the delta will go down in second half here. If you then look at the cash after very weak Q1 in terms of operating cash flow the organization really focused on improving the working capital and we manage to deliver a cash flow 3.1 billion in itself probably not the super high number but still considering where we started from with the big working capital build ups in the first quarter I am still satisfied with the performance here in the second quarter. On the investing cash flow you see here that it’s slightly higher than what we typically have I mean it’s driven by the normal things which is investments in the normal test related equipment that we need over time that will be substituted by the benefits of the ICT centers, this year we have doubled kind of investments until the ICT centers are up and running, so that’s why you see little higher here. And then on the financing side, that’s really the impact of the dividend payouts. So with that and this then leads to net cash of 3.5 billion plus and as you know our net cash definition in the net cash definition we also exclude or include the post employment benefits that we have so I think that’s why worth while noting as well, Hans.

We’ll brief you down to the segment starting with networks similar trend in the first quarter growth of 8% currency adjusted down 9 same as market as I mentioned before however sequentially up 16% compared to the first quarter with the same market we talked about before operating margin up to 4.3 billion excluding restructuring, so it’s year-over-year improvement and of course sequentially and quite dramatic improvement from 3% operating margin excluding restructuring to 14%. This is very much driven by higher sales somewhat of course currency effect sequentially and of course a continued efficiency work and then of course contracting that this was somewhat higher operating expenses and less [hours] still managing the 14% so of course it was a step forward. Services as I said in the first quarter good solid performance 21% growth in professional service overall services flat sort of in constant currency and we are still in decline hanging much together with mobile infrastructure also on the professional services system integration managed services very good growth result wise SEK2.3 billion bottom line excluding restructuring compared to 1.6 a year ago so clearly improvement as well and stable operating margins including restructuring. So, we see a good demand for professional services right now and so that’s as the industry is transforming our skills and our confidence in services becomes very important. Support solutions down 13 reported sales up 9, here we see two different things OSS/BSS operates now starting to really get traction very good to see and that’s of course fueling the professional services growth. TV and media, software is still down very much down to few customers in a very few regions that are not being able to invest yet. We believe that we are right positioned we have a great portfolio and it’s more about the markets taking often the ability for some customers to actually invest right now. Excluding restructuring flat bottom line meaning zero which means that we have a very leverage model, if we just get more sales into some more solutions it will flow down that is not the gross margin problem here and they have worked lot with the cost base as well so good to see. Summing up a little bit then talking about North America the business has stabilized but it’s on a lower level than last year continued 4G deployment in Mainland China, continued strong demand for professional services in all regions we have also lower IPR revenues despite that we had improvement in all segments and profitability this quarter. We have as John said higher paid this year in our cost and efficiency program so we have increased the restructuring charge to 4 billion to 5 billion, doesn't change the overall plan, we’re all still planning for the 9 billion in effective cost savings by 2017 just that we seem to have more activities very early on here. So we feel more confident that we have activities enough to deliver on that promise to the market and to ourselves. Concluding with a high pace in the company transformation both when it sounds to type of products, businesses but also the efficiency program at the moment at the same time managing the company that’s of course very important this is the key for us to continue to maintain our leadership and maintain our profitable growth that we are aspiring for. Thank you very much.

So operator we are now open for the Q&A session, so please.

Thank you very much sir. [Operator Instructions]. Our first question comes from the line of Achal Sultania from Credit Suisse. Please go ahead.

So first Jan on OpEx, I think if I remember correctly you talked about second half of this year being significantly below second half of last year. Can you just give us some color? Are we still looking at that pattern for the second half or does the currency fluctuations change that slightly?

I think, do you want me to answer first or ask you -- I can answer it. Look, the ambition that we have is I mean is still to try to be even including restructuring charges basically on the same level as last year including restructuring charges and we also know as you rightfully said that the second half run rate and also the first quarter run rate were high in terms of OpEx. We’re still aiming towards that which means that we are trying to make second half run rates come down significantly. Let’s say if we manage to reach flat in terms of OpEx despite the FX headwind that we have but it’s still, it’s absolutely ambition so second half especially Q4 should be coming down significantly. And we have activities to support that obviously than more than was the first one we started with and now we have the global dimension and then later in second half the impact of the previous programs. We continue to work on that and let’s see it’s still half year to go.

And maybe second one for Hans. Hans just generally just thinking longer term I think we’ve seen two markets Japan and Korea where LTE was actually rolled out initially. We’ve seen CapEx patterns have been quite weak although I understand that the capacity project is increasing the mix, so that helps your gross margins. But just generally longer term for top line, how should we think about the CapEx patterns in U.S. and China as we go into 2016?

I am not sure if I am which is got guiding with 2016 already but you can say although you are right that Korea and Japan was very earlier on 4G but it’s also very two markets that are competing on quality. That means that they are actually investing upfront quite a lot in quality capacity which is of course enormous important for their markets because the competition is there. So that means that there will be moments where they can be a little bit lighter on the investment because they are really focused on getting good quality in the network. So that’s how we see it. And then when it comes to China it's little bit easier to see it’s long term project and it is sort of coverage so then you can predict that that will continue for a while as they're not rolling out 4G harder than to make the statements about North America. What we are stating about the trend right now is that we see a stabilization and remember now I mean sometimes it sounds like there is no investment in North America these guys are investing a lot, it’s just that they invested even more first half last year and still with the good investment there are some blocking factors for high investment such as consultation, new spectrum coming out and of course the disbursement they have done for those spectrum. But the underlying factors in North America is still that 4G in U.S. it’s most advanced market in the world, where you have all the Internet companies, all the gadgets and Internet of Things using the network so that dimension is intact. And the third element our market share is also intact. So that’s in combination I still believe that stabilization is important but not talking about what will happen after this. Let’s see how the markets develop now we’ve seen a stabilization in this quarter.

Thank you. Our next question comes from the line of Sandeep Deshpande from JP Morgan. Please go ahead.

My question is regarding what you’ve heard most recently about U.S. spending into next year, they have bought some, your customers have bought spectrum earlier this year. When is your time line when you think that they will equip that spectrum? And is there risk that that CapEx increase is some that spectrum increase will not be able to compensate for any declines in Chinese CapEx?

It's Jan here, I think you’re asking questions that we typically don’t answer because I think that the customers we have in the U.S. and China will be ones that answer those questions how they, when they intent to deploy the AWS spectrum and so forth and that equal to comment. I think what you can say is of course that our business obviously for any carrier what they are trying to see is that new spectrums and new radios should carry traffic as soon as possible from the point when the spectrum is available. So that means that you probably should think about our business coming up let’s say three, to four, to five months prior to spectrum being made available if you understand my point. But I think it would for the customers to comment on when they exactly want intent to deploy. I think on the Mainland China and CapEx for 2016, I think that’s far too early to say and that market we would like absolutely the customers to commence that. But I think what we see this year is very much the same pattern as we said after the first quarter, meaning that we have now been deploying 4G for let’s say three, four quarters on this level and I think we will see for the remainder of 2015 the same type of pattern and the same type of business mix meaning that it's hardware deployments that is the dominant mix and then after that we should hope for to see some more software connection fees and so forth coming from subscriber uptake. So the theme is more hardware centric this year and then let’s see once we approach 2016 what the mix will be for next year.

Our next question comes from the line of Tim Long from BMO Capital Markets. Please go ahead.

Just back to the China, give us a sense as to how far along these things -- how much room left we have for these 4G builds? And then when you think about some of the other emerging markets do you think when China is kind of in more of the stage like North America is at that point do you think we’ll be looking at India or some other markets kind of filling into the important build out markets to keep that piece of the business going?

On the general comment as I said in the beginning there are 600 million LTE subscriptions in the world. So it’s a very, it’s a little bit more than 10% of all the subscriptions in the world on the 4G. So we still are in the beginning on 4G, so we need to remind ourselves of that. Then of course when it comes to China, they have by far the fastest growing LTE subscription market at the moment given the large rollouts they’re doing. Remember China is big and of course they are now doing the coverage we’re going to see the pick up on demand on 4G later on and then we can sort of decide what will happen in the next step, but still they’re on the coverage phase. India you know sort of starting on 4G right now but the LTE subscription in India very-very low. So yes we’re going to see more market and right now the majority of all markets in the world actually have gotten a 4G license but there is still a market that hasn’t even started in 4G. And if you look in the [momentary] report you’re going to see that till 2020 3G mobile subscriptions will be more than 4G. So 3G still is a very important technology rolling out in the world, 4G is of course where we see more investment at the moment and totality of course is a quite dramatic mobile broadband subscription going forward. And of course then the Asian markets is in the place because that’s where the majority of the population is living.

Our next question comes from the line of Mark Sue from RBC Capital Markets. Please go ahead.

I am looking at a high level constant currency, the business is declining and Ericsson’s profit has been basically flat for about 10 years. In a broad view the service providers want to do less hardware more software, you're moving in that direction so the question is can we accelerate that, are there considerations to do something more transformative so that operating income just as you come from restructuring efforts, maybe if you can update us on how you might be able to do things differently over the next 10 years.

I will not go into debate if we haven't grown in 10 years or not, I would say that we have. Remember also that currencies has gone the other way for us, until last year we've actually had adjusted the currency growth in the company but of course in Swedish kronor we didn't have it and if you go back 10 years of course then we were 160 billion in turnover and now we're at least year 227. But we shouldn't debate that one we should debate how we get into software. We are trying to accelerate as much as possible and the important thing is the journey we started early 2010 and 2011 that we configured all our hardware so we can sell software as a service or as a product because before that it was entrenched in our hardware. Secondly we need to have our customers of course adopting that model. Software centric model of how we sell products. In the support solution we're already there, we sell software. I mean if we sell a billing system, it's a pure IT type of software, I would say the same go for many of the products even media, even their even sold that's worth like. On a net flow side of course it's a transition when you now change contracts with our customers to go to a much more software intensive model. Here we're working with all our customers all around the world, one of our four strategic execution programs is all about making this happen and as you remember last year we launched publicly the model we want to have for software for networks. So yes we are doing everything we can, we will see the customer with us and preferably that's a competition also believes that software models are important as the majority of all R&D is software. So yes, we're going to do as much as we can as fast as we can but of course it's a market out there you need to adopt these new models as well.

And for a pricing point is it more separation of software that you're doing and looking at that in a little bit of new OSS/BSS or is there a way that you can avoid the deflation so that you can actually see not only software revenues but growth in software revenues.

I think Mark, Jan here, I think what Hans refers to is obviously the change of the business model in the network side towards more of a software model that reflects also how we make investments in R&D. If you look at all our targeted area they have been chosen because they either are more software centric and professional services centric, so I think the way to track our ability to grow software beyond networks is really by tracking targeted areas performance and we will come back when we meet at the Capital Market Day in November to give a little bit more detail and color to the performance of the targeted areas. We know that we have you're commenting in the terms of good growth and so forth so far, but we will come back in November and do a similar kind of more detailed analysis on market and progress as we did last year. So let's wait until November with that.

Our next question comes from the line of Pierre Ferragu from Bernstein. Please go ahead.

Just a quick one on your cost reduction programs. So you updated like a very significant headcount reduction in Sweden in the last couple of months and we're beginning to see the impact of that towards the end of this year. I was wondering how much of your total ambition at least figuratively is prediction, is that most of the cost savings or do you have still like major restructuring happening on the back of that and if that's the case, could you give us a sense of where this is happening, which kind of functions, which regions at the high level, it would be very helpful.

Pierre it's Jan, thank you for the question. I think -- I mean if you have to go back to when we announced the cost reduction and efficiency program then at the Capital Market Day we went through the buckets that the program contains and it is very much about structural efficiencies, one should know that because we want these cost savings to stick, we want them to be sustainable so and what we are obviously driving is more long-term it is -- what we call the globalize the centers, those savings are not in the picture yet, they are in investment mood as you can see in the investing cash flow but what those will enable in a few years time is a new way of doing testing of our own softwares that will then lead both to lower CapEx overall for test equipment but also an improved test process and so forth. So that's a typical example of a structural saving, it takes a bit of time to implement it but we think it's a very good one to do also very much linked to a cloud based way you’re working and continues integration of softwares and so forth. So it’s a very important project and initiative. Secondly we have started as you know with the modern business that’s obvious that that one is in the mix; we have the reduction related to Sweden which is a mix of R&D related efficiencies and some closure of factories. In the global dimension so far it’s mainly in the services area and if you look forward and we will obviously continue to deliver efficiencies in the global scale and I will rule it that our policies that we will inform employees that our effected for us in the countries that they are employed. But I think Hans and my opinion and what we wanted to model with is the 9 billion net saving, of course we also need to make investments during this couple of years especially in new sales people in the targeted areas and new services people in the targeted areas and so forth. So we will continue to do that but net it’s the 9 billion that we are gaining for and that’s the comparison with 2014 P&L. And then what we will do of course if we see that there are bigger restructuring activities that will cost more money then we believe for about those, so that principle we have. And until we have done that it’s the guidance that we have provided or the guidance that we wanted to follow.

The next question comes from the line of Kai Korschelt from Merrill Lynch. Please go ahead.

I had one and a follow up if that’s okay. The first one was on the M&A side, I think you’ve had the sort of management title few weeks ago and I think you’ve essentially told us that largely it was up on the agenda. I am just wondering on the routing side is there now, what is the battle plan to gain more market share? Is it more investment? Is it maybe lower prices for your product? I am just wondering on that part of the equipment side where you have invested already lot of money over the years. Is there a new plan I guess? And the second question is on the IPR side, I think there was a couple of days ago there was a core decision which may make it a bit more difficult, I think you take out in junction to get some of that handset makers. Just wondering do you think that impacts or weakens your position in the Apple or any future IPR case? And then my other question is on the 5G side. Do you think you are in a good position to at least defend a good market share in terms of standard essential patents given that we are still only in the standard setting phase here?

I start backwards, I'll start with 5G and I think we’re in a good position, we’re early out, we’re part of standardization, I think we have done a lot of innovation already. We can basically replicate many of the discrete sort of requirements on 5G already right now, you will see the portion in a little bit smaller phone, right now right now it’s a little bit big. But from a network point of view we’re [comp] 54 with the latency throughputs, handling of numerous devices and all of that, I think the team has done a great job and now we’re working. So I feel we’re really good in that. When it comes to IPRs there is of course a lot of things happening in the market we don’t see at this moment that we have any weakening situation because of some different things are happening. We still believe in the industry that this is enormous important anyone that wants to enter industry are allowed to do with and we used a frame in order to get everybody in. At the moment we basically have agreements with everyone in industry dealing in handset, or infrastructure, except Apple in this case and we could not agree the value of the gross items. Now we’ll have the core system define that and we think we’re in really good position. We have a lot of patents in this area and we're just going to see that if we cannot sort this outside the court which is our preference, we’re going to do it of course in the court and that process is ongoing. Then on the first question which was very broad, you can answer fairly simple the factor has not changed, we are executing on the strategy that we outlined for a couple of years ago with a different horizons. We have a clear M&A strategy where we focus mainly in the core area of an organic growth meaning our own money and that in the target area we have acquired companies but that’s also coming to a moment where we feel for example in OSS/BSS we almost had a complete portfolio right now. We have added [accordia] concepts and things like that but now we can build it together at the different modules and that is the whole idea because customer wants to have the modulization and the flexibility of it to have standalone product that we’re bringing, that is nothing that the customers are looking for right now. So that is the same strategy, no change of that strategy at the moment, we following the market around us of course so see if the situation has changed or something like that but that’s normal management responsibility but no change for the strategy.

Our next question comes from the line of Alexander Peterc from Exane BNP Paribas. Please go ahead.

You stated in the press release that you have accelerated your transformation given the consolidation trends in the industry, both among your clients and your competitors. Could you be a bit more specific with respect to what you have accelerated and does it really show in OpEx or CapEx for any other area? And also while you're talking about industry consolidation, if you could comment a bit on the pricing situation and the pressure in the industry, is there any change there or is it basically unchanged versus the year ago let's say?

When it comes to the acceleration, we are doing the acceleration because of our own strategy of course things are happening outside, but it's not because of anything else. And the acceleration we see and that we're trying to report in the quarter of course, the good growth -- continued good growth in the target areas that definitely is part of our strategy execution. The second is of course activity level of their cost and efficient program, it's considerably higher in the second quarter compared to the first quarter and basically 4,000 people left us in the second quarter and that does not include the people in Sweden because that is coming in the second half from a reporting point of view. So of course it's a high activity on those transformational activities, one to really grow into the new areas and two to see that they take care of the possibility right now to reduce our cost base to even get the best of leverage going forward. Then you ask about the pricing, depends of course if we talks about OSS/BSS and managed services on those areas, I wouldn't say the competitive environment is the same, pricing is the same, is much more about scoping rather than maybe traditional RP. If you talk about mobile infrastructure, there is no change, it's basically is -- they are coming up, new footprint or sort of transformative network build outs. Of course it's more pressure on price because everybody knows who's going to win it. It's going to sit for long time. But it's no difference for competitive loss four years or five years, it's the same type of competitive environment in those type of leads. The only thing you can see in the mobile infrastructure, you see fewer competitors if you're taking over time here and not in one quarter for god's sake, but if you take it to five years of course you see fewer players competing for mobile infrastructure deals all around the world, especially we don't need the old competitors in all regions, there are very few that we meet in old regions I would say.

Our next question comes from the line of Johannes Schaller from Deutsche Bank. Please go ahead.

I was wondering given that we are half way through the year if you could may be give us a little bit of a quantitative update on your growth in the targeted areas right now. I think you mentioned OSS/BSS is going very well, also you touched briefly on routing but and should we assume that you are well on track to deliver the more than 10% growth in the target areas for this year as well. And I think Jan also talked about some additional costs and investments of course in the targeted areas, but if you could maybe give us a bit of a framework around that. How we should we really think about OpEx growth here versus some of the savings that you are planning with your SEK9 billion program?

I can start with the growth I mean yes you are right, our ambition is to grow more than 10% and we will as Jan said come back little bit more detailed in the Capital Markets Day, that's our ambition. If we say good growth, it's a good indication that we at least so far feel that we are in that range. Not saying anymore right now.

Johannes I think on the OpEx list, I mean the reason that I want to -- all of us to use the SEK9 billion number and the baseline being 2014 P&L is of course that there will be also needs for investments and we still think that the split or the breakdown of where the savings will appear, it's still holding. So when we met there in I think November last year we said of the SEK9 billion approximately half is cost of sales related and approximately half is operating expense related and most of the operating expense related savings will be R&D. There will of course be savings on G&A but on selling expenses we are mainly using the same amount of money but releasing efficiencies and investing in new areas. That's kind of the breakdown that we are -- we still think that, that holds the breakdown that we gave in November of last year.

Our next question comes from Gareth Jenkins from UBS. Please go ahead.

Just a couple if I could, one question on earlier on you mentioned Jan around the software business model. I wonder if you took out visibility and whether you're seeing any improvement in visibility around that software model. And if so if you can maybe share with us some metrics around annuity revenues going forward, so how much of revenue have you got covered by existing contracts? And then just secondly on support solutions, it's obviously very difficult model given the variability quarter-to-quarter and profitability. I just wondered again on visibility how you can -- whether you can help us with our forecasting going forward for that business?

Gareth, its Jan here. So if you -- we come back to our common favorite topic which is the software business model there Gareth. So since I'm Chairman of that initiative internally I should be the one that answer. I think so last year we took the time to develop the tools, methods and the processes to be able to execute the change which will be obviously in part a recurring model and in part hybrid model. This year, next year and also while this year next year it is very much about negotiation or introduction of the new models. And I think that again by November we should be able to give some more flavor or color on what's, how much, which percentage is recurring revenues so forth on a higher level. I think you can say as to simplify things, support solutions is the area that is the most advanced in terms of recurring software business models and I think they are approaching on their software business they are approaching now 35 or so percent of the business being recurring, so we will not reach 100% recurring software business models but I think important thing is what you hear me saying is that now we have all customers in the funnel and then now we're in execution mode. So it's, my view based on the half year analysis and assessment that I've done, the project I think we're progressing in accordance with the plan for long-term good benefits.

Thank you very much. Our next question comes from the line of Edward Schneider from Tartan Equity. Please go ahead.

Hans it seems clear that North America is kind of a reasonable proxy for the path the 4G markets will follow. I know you've spoken quite a bit about adjacent markets and you've mentioned 5G in a lot of your, many of your customers here in the U.S. and North America in general are looking to deploy in the other areas. Can you give us some idea what the time frame for that new market to become a material contributor to your finance, is it several years after 5G and generally a few of the applications would be helpful too. And then Hans, Hans mentioned that most everybody who's in infrastructure handsets has already got a license with Ericsson and of course you're still in discussions with Apple. I know you don't want to give any specifics but in general even if you get a settlement with Apple will it materially change your IPO revenue, it's not going to increase by 2x but in general can we expect a significant change if that were to finish or be at these run rate levels for the foreseeable future.

On the first one, when we come to adjacent markets that's of course little bit different from market-to-market as you said. I mean North America we already see some of our customers having sizeable business from machines, machine et cetera, and of course that partly we are benefiting from how we build the network but when it comes to requirement from new used cases like low latency for autonomous cars or low battery for sensors that cannot change the battery for 10 years or you come to enormous throughput because of data loads et cetera, all those used cases that has not happened yet. Today we still use the traditional 2G, 3G and 4G and some sensors to handle the industry, adjacent industries, but just imagine when healthcare will come in with remote patients or remote monitoring and remote healthcare, the demand on the network is very different from today. That is probably a couple of years out before we're going to see any sizeable revenues for our customers and hence creating demands on the network. But that's very much where 4G/5G is going. And that's of course the excitement we see, I mean I usually say that so far the so called network design has been impacted people. Now if we're going to have the impact on industries and finally on the whole society and that's we're approaching. When it comes to IPRs, now there is no specifics here I can answer on but again we have basically agreements with a larger infrastructure vendors and handset manufacturers in the world except Apple in this moment of course. They are a sizeable and important piece of it but it will not be any dramatic changes besides that. It's all of them or part of it of a recurrent revenue that we've built up and this is part of how the industry is working. And remember we also work with cross licenses because we need licenses from others as well when we do our infrastructure. So it depends on who we're doing deals with and what type of patent portfolio they have.

So then on your income statement or on your operating income bridging once you show this negative effect from mix shift from North America to China, I know you spoke in the past at length that it doesn’t matter what geography you're in because the pricing's about the same. So then given what you said about adjacent markets in North America, it sounds like just the increase in revenue and networks in North America are just generally more capacity business than coverage which adds more coverage and that's a way to continue or way we should think about it for a while?

I think the design principle for the networks right now going from 4G to 5G is two, one is that it's a continuation of 4G to 5G, meaning that you can reuse a lot of the hardware especially if you buy our stuff, our base plan can handle several technologies, several frequencies and license and unlicensed spectrum, that means that of course you can reuse a lot and of course it's going to be more capacity and software. Second design principle is of course what I said, we want one network that handle 2G, 3G, 4G, 5G that uses all the spectrum and you can do [carrier] including the sort of unlicensed spectrum and that of course requires a lot of software to handle that. So you are right, that over time we are trying to do these as smooth as possible for our customer migrating from 3G to 4G, to 4G to 5G by reusing as much as possible all their hardware and then having software on top of that. That's how the model works and the designed principle that the team in radio and group function technology has implemented.

Just the part of build out would be different from North America to 5G will be less coverage since your radios are already installed and therefore the margin profile if you move to 5G maybe little bit different than what we're used to?

I think that depends on which market you're into right now, there are of course markets that don't have their base plan for the future but of course many have deployed it and then you can be able to migrate, so it depends a little bit on your legacy installation here when it comes to that. So then you go -- you need to go from market from market.

I think -- it's Jan here, I think we -- if you look at the Capital Market Day presentation, we have this different business model picture that I typically always show on the Capital Market Day where we talk about coverage and capacity and I think it's little bit too early to say whether the low dig is going to be coverage and capacity in the same way as we have introduced it when we introduced multi-standard radio also for 5G, I think as Hans said its evolution that is the main strategy, of course there will be a need for different types of base stations and so forth right? So I think it's a little bit too early to talk about whether the logic will be coverage and capacity but in times of 5G we will absolutely make sure we have relevant business more than discussion and so forth.

Thank you very much. And now our last question comes from the line of Paul Silverstein from Cowen. Please go ahead.

I heard your comments earlier about pricing, but if I may -- any thoughts about -- gross margins obviously been a long-term issue for you in the industry, any thoughts about where you can get gross margins through in terms of maximum gross margin efficiency and how you're going to get there as well as your strategy -- high level in terms of trading off revenue for margin?

Paul it's Jan here, I think the -- I'm sorry to say but I mean the gross margin over time it will be less and less relevant to look at gross margin as the value driver for Ericsson as our services business continues to increase as portion of the total company. So over time it will be more important to look at the bottom line and our ability to grow bottom line in regards to that, but nevertheless, the whole strategy around evolution on 5G as Hans discussed that the whole strategy around targeted areas is of course to get more and more software and more and more integration type of project into the mix, so, and that is what we then summarize when we talk about this strategy of excel in the core business which is by much around software centric networks as well as efficiencies and then we'll success in targeted areas. So I think that's the strategy we have and we have -- we are continuing to executing on to deliver and improve earnings level for the company.

Hey Hans you want to conclude the call?