Securitas AB (publ) (OTCPK:SCTBF) Q1 2023 Earnings Conference Call May 3, 2023 8:30 AM ET
Company Participants
Magnus Ahlqvist – President and CEO
Andreas Lindback – CFO
Conference Call Participants
Anvesh Agrawal – Morgan Stanley
Stefan Knutsson – ABG
Viktor Lindeberg – Carnegie
Raymond Ke – Nordea
Karl-Johan Bonnevier – DNB Markets
Magnus Ahlqvist
Welcome everyone to our Q1 Update. Andreas and I are doing our call today from Stockholm. We are at an exciting time, and we’re creating a unique position in the security services industry, shaping a security solutions company, which is at the forefront reward-leading technology and expertise.
And looking at a few highlights of the quarter. The growth momentum is good, and we recorded an organic sales growth of 12% in the quarter. We had double-digit organic growth in technology with a healthy backlog and the solutions growth was even stronger. So, we call that strong double-digits. And those two combined generate a 13% real sales growth also when excluding the impact from standard security.
And the growth in North America was bolstered by strong commercial activity in general and one more significant contract win and expansion as we have previously announced. And of course, as in previous quarters, the high price increases contributed strongly to the growth.
The operating margin improved to 5.8% versus 5.1% a year earlier. And the margin accretion from the Stanley acquisition is significant, but also a good contribution from the growth of our legacy technology and solutions business.
And as important as ever, we are balancing price wage in an inflationary environment. But we do have some challenges in Europe, primarily related to labor scarcity and some temporary factors, and I come back to those in a while.
Looking from a cash flow perspective, Q1 is normally a lower quarter, but we recorded some improvement versus 2022. And another very important message at a high level before we go into numbers is that the integration of Stanley Security is progressing well.
And turning to the next page, we are now enhancing the visibility of performance across the different business lines in the business. And we feel that this is an important step in facilitating enhanced visibility of our performance and in the journey to 8% operating profit margin by the end of 2025.
And we have outlined the business now in three different categories. The first one, we call security services essentially includes our on-site, our mobile guarding services as well as the Aviation business. The second category is technology and solutions. And the last category includes our advanced risk management business together with costs for group functions.
So, let me share a few comments related to these numbers and to the performance. So, when you’re looking at the performance, we have real sales growth of security services where the main driver is price increases.
And from a profitability perspective, the development in North America was positive in the quarter, and at the same time, we were below expectations in Europe due to continued challenges related to labor shortages, some start-up costs, and also negative cost leverage.
And looking at the technology and solutions business, the gross number at 77% is obviously very high. But when you exclude the impact of Stanley, the real sales growth was a strong 13% in the quarter.
And the profitability in this part of the business came in at 10.1%, and the strong integration progress with synergy realization is progressing at a good pace, particularly in North America, which has been and is according to plan, and this contributes to the operating profit margin.
And we will share this information on a quarterly basis going forward. And I believe this will enhance the understanding of the current performance, but also how we are actively shaping the business now with an increasing emphasis on technology and solutions and enhancing profitability in security services.
So, with that, let us shift to the performance in our different geographies. And starting, as always, with North America, and our momentum continues to grow. We had good momentum going into 2023, and this was further bolstered by the expansion of win of a significant client contract, price increases and generally speaking, good commercial activity.
Installations business grew at a good pace with a continued healthy backlog. And it’s also important to point out here that we are growing at a good pace while we’re driving extensive integration work and good progress together with Stanley Security. And our technology and solutions offering is now stronger than ever to our clients, and these sales now represent 31% of total sales in North America.
The client retention rate is generally good. But when you look at the 85%, this number is negatively impacted by active portfolio management. So, that means when we are terminating lower-margin contracts, if we are not able to renegotiate them or convert them into solutions. And this is fully in line with the strategy, and we are winning new business at better margins.
If you then turn to the profitability, and this is the real highlight because here we recorded the highest Q1 margin ever at 7.6%. The Guarding business unit improved with positive impact from active portfolio management and leverage.
But the main driver of the margin improvement is the technology business. We’re progressing well, as I said, with integration work, and we’re ahead of plan in terms of cost synergy realization.
And looking at the underlying business, the performance in Stanley Security has improved significantly versus a weak start last year, and we also recorded solid development of our legacy technology business.
Corporate risk management business is also contributing to the improved profitability in North America. So, looking at North America, very good regained momentum on the topline and another record quarter in terms of operating margin.
And let us then shift to Europe, where we recorded a very high 13% real sales growth. And as I mentioned before, high level of price increase is the most important driver behind the growth, but we also have solid portfolio growth in solutions, which is contributing to the growth, along with good growth in the technology business.
And as in the previous quarters, a few percent of the growth number is related to hyperinflationary environment in Turkey. But due to labor shortages, we are still in a situation where we have to decline work, which obviously has a negative impact from a growth, but also profitability perspective.
Looking at the margin. We had a slightly improved margin versus last year at 5.1%. But having said that, when you consider the positive impact from technology and strong solutions growth, this margin is below our expectations in the quarter. Our team has done a really good job balancing historically high wage increases with price increases, but there are a few factors that negatively impact the margin.
As in previous quarters, various effects related to the labor shortage negatively impacted the margin in Europe, and this is very much related to higher costs for subcontracting and reduced capacity for high-margin extra sales.
And that is all related to the fact that if we don’t find people, we cannot take on more of the higher-margin extra sales type of business. But then we also had start-up costs related to a larger aviation contract that also impacted the margins.
And if you then look at what are we doing to improve performance in Europe? Well, there is a few different actions. First one, increasing the margin requirements for new contracts. We also need to step up how we are working actively to renegotiate to terminate low-margin contracts. Tighter cost measures have also been put in place to ensure positive leverage.
And we’ve also made some leadership changes with the new leader in Europe and a number of important additions and changes in the last couple of months, and I expect to see improvements from these measures going forward.
From a client perspective, we are stepping up solutions efforts, leveraging our strong technology and presence. So, to conclude Europe, some margin improvement, really good growth in terms of solutions and technology, which is fully in line with the strategy, but security services part and the on-site guarding business hurting and here, we need to take strong actions now to make sure that we improve the performance.
And moving then to Ibero-America, where we recorded 22% organic sales growth in the quarter. The inflation-driven increase in Argentina is the main driver of the high growth number. Spain, as you all know, is a very important market in our Ibero-America division, and here, we recorded 6% organic sales growth.
And as in the previous quarter, our team in Spain is doing a good job, driving active portfolio management, and that has some negative impact on the growth. Technology solutions are a critical part of our offering, and these sales represent 31% of sales in the quarter.
And shifting then to the profitability in Ibero-America, where our team delivered a stable margin of 5.8%. We have good margin — or good momentum, I should say, with higher-margin technology and solutions sales and that supported the operating margin as deductive portfolio management.
On the negative side, increased wage pressure in Spain is burdening the margin at the beginning of the year, but we expect to improve the balance during the coming quarters.
So, that concludes the overview on a group level in the different segments and then handing over to you, Andreas, for quite a lot of details today regarding the financials.
Andreas Lindback
Thank you, Magnus. Starting by having a look at the income statement, where the growth continued to accelerate in the quarter, as Magnus mentioned, with 12% organic sales growth, and our operating margin was 5.8%, where the Stanley acquisition was a strong contributor to the result and also delivered a healthy margin.
Looking below operating results, the amortization of acquisition-related intangibles was SEK154 million in the quarter on the same level basically as in Q4, but higher than last year due to the SEK5.5 billion allocated to intangibles in the PPA related to Stanley, and this also leads to approximately SEK375 million per year in amortization.
Items affecting comparability was SEK281 million in the quarter, SEK115 million of this is related to the Stanley acquisition and SEK166 million is related to the ongoing European and Ibero-America transformation program. And as usual, I will come back with more details on IAC shortly.
Moving to the financial net. Here, the cost came in within the range we guided for in the last quarter at SEK428 million in Q1. And the main reason for the material increase compared to last year is the financing of the Stanley acquisition, where we had SEK310 million of cost in Q1.
We had positive impact of SEK51 million from IAS 29 hyperinflation in Turkey and Argentina, which is an increase of SEK39 million compared to last year. And the remaining difference to last year of SEK62 million is then mainly related to increased interest costs related to our legacy pre-Stanley debt.
Going to tax. Here, the forecasted full year tax rate is 26.8%, which is then back to normal levels after 2022, where we had a positive 2.6% non-recurring impact from the tax cases won in Spain in the fourth quarter last year.
And before moving on, I just wanted to highlight again here that the number of shares used for calculating earnings per share are adjusted for the bonus element of the rights issue in line with IAS 33, as I’ve also mentioned in previous quarters. And you find more information on page 19 in the report.
If we are then moving on to the next slide, we have some additional information related to the different programs under IAC. And the two remaining ongoing programs are the European and Ibero-America Transformation Program and the Integration, Restructuring and Transaction Cost Program related to the Stanley acquisition.
Looking at the European and Ibero-America Transformation Program. Here, the Ibero-America part is running well on track, and so are also most of the activities in the European Transformation Program, but as we have mentioned earlier, we are temporarily executing with a slightly lower pace related to the core IT platform activities to ensure that we calibrate the program with the Stanley integration and also to ensure that we’re maximizing benefit realization and cost efficiency.
At the program start, we announced SEK1.4 billion in items affecting comparability and SEK1.1 billion in CapEx over 2021 to 2023. We then updated the numbers based on the new cloud computing accounting regulations that was announced in 2022, which meant CapEx was reduced to SEK150 million and IAC increased to SEK250 million.
So, in other words, the full IAC program budget is SEK1.65 billion and CapEx SEK850 million. In the first quarter now in 2023, the IAC cost was SEK166 million and over 2021 and 2022, we have invested a bit more than SEK1 billion in IAC, and we estimate for the full year of 2023, the number to be between SEK600 million to SEK700 million.
On the CapEx side, we have seen lower CapEx need compared to our original plans, and we estimate to land north of SEK500 million total CapEx investments by the end of 2023.
So, all-in-all, we are estimating to be below the total budget by the end of the year. While there may be some residual costs going into 2024 from the temporary slower pace that we are running at that I also mentioned earlier. And here, we will come back with further details in the coming quarters.
Moving on then to the IAC related to the Stanley transaction. Here, we announced total costs of approximately $135 million, and the integration continues to progress well, where we are ahead of plans with our synergy takeout in North America, which is also impacting our margins in a positive way. We saw good progress also in Europe in the first quarter, and we expect accelerated synergy progress also there going forward.
In the fourth quarter, we had SEK115 million of cost in this program. And since the announcement, we have invested SEK630 million in IAC, and we estimate the 2023 spend to be between SEK500 million to SEK600 million. All-in-all, looking at the totality for the first quarter on the left-hand side, we have a total of SEK281 million of IAC in the operating income.
Moving then to an overview of the FX impact on the income statement. Here, we had continued positive impact from currencies, although less than in previous quarters, and that’s mainly as the US dollar comparable rates from last year increased, and this trend will continue throughout 2023 for the US dollar, but also for the euro.
The total FX impact on sales was 6%. And when looking at operating results, the FX impact was slightly higher at 8% due to higher profitability in the North American business with similar effects also on EPS. The EPS real change, excluding items affecting comparability was minus 12% in Q1, with negative impact from the adjusted numbers of shares by IAS 33.
Looking at it on a constant share basis. The real change, excluding IAC, was 15% positive in the quarter. And this is derived from the real change on operating income being strong at 42%, including Stanley, while the increase of amortization of intangibles and financial net impact negatively leading to the 15%.
We then move on to cash flow and cash flow continues to be a prioritized area for us due to the increased macroeconomic uncertainty and of course, as we have a strong focus on deleveraging our balance sheet after the Stanley transaction.
The first quarter is coming in at SEK187 million operating cash flow or 9% of the operating income, which is an improvement compared to the negative operating cash flow we had last year in the first quarter.
The first quarter is from a seasonality perspective, the weakest cash flow quarter for us. And the reason for that is that we are making larger annual prepayments and payout incentives in the beginning of the year. Our DSO also increases somewhat after year end as we normally see strong end of the year collections.
If we go into some details here and start with CapEx. Here, we spent around SEK950 million or 2.5% of sales, which is at the same level as in Q1 last year. We continue to see an increase in our investments into solution contracts, confirming the positive momentum we have in that part of the business, and we also see continued investments into our existing transformation programs, as we have previously announced.
Looking at the full year, we continue to expect to land below 3% of sales in CapEx. And just to be clear, that includes Stanley and IFRS 16. The strong growth that we are seeing in the business now also with increasing organic growth also in North America, continue to have negative impact on the accounts receivables in the quarter.
While the DSO for the whole group was flat compared to Q1 last year, which is good considering the current environment. The negative development in other operating capital employed is mainly derived from increased annually prepaid costs such as cost of risk and IT together with the reduced account payable position by the end of the quarter. I should say here that there was no significant payroll timing differences in the quarter, so very much neutral from that perspective comparing year-over-year.
All-in-all, an okay start to the year, and we continue to target to deliver cash flow within our target range of 70% to 80% also in 2023. And important, just as a reminder, that we this year have no further payments related to corona government relief measures in North America, which hampered the full year operating cash flow with SEK700 million in 2022.
We then have a look at our net debt and our net debt increased around SEK800 million from the beginning of the year until the end of the quarter. And in essence, this is related to the negative free cash flow and also the IAC payments we made of around SEK340 million in Q1.
The translation impact had major negative impact last year, but here, we now see a stabilization in the first quarter due to more stable FX environment. The stabilization of the Swedish krona, in combination with our good EBITDA growth from higher margins and also from price increases, is supporting the net debt to EBITDA ratio and development, where we landed at 3.6 times in Q1 compared to 3.7 times in Q4. And here, we are slightly ahead of our plan deleveraging to be below three times in 2024.
Please note that the 3.6 times I refer to here is including 12 months of Stanley EBITDA, while the reported number is 3.8 times. And as you may remember, Stanley had a weak first half of the year in 2022. So if we continue to perform well in the Stanley business also in Q2 this year, that will have a positive effect to our net debt to EBITDA development in the second quarter.
If we further adjust for the items affecting comparability, the net debt to EBITDA is 3.3 times, which gives a good indication of the deleverage effect we will see after the IAC programs are being finalized. It should be noted that we, this year, will make the dividend payment twice in Q2 and Q4 compared to one-time previous years, which will also have a positive timing impact on our net debt throughout the year.
If we then move on and have a look at our financial position and the debt maturity short, and we continue to have a solid financial position. None of our facilities have any financial covenants and the liquidity position continued to be strong in the quarter at SEK5.4 billion.
We also have our RCF on more than €1 billion in place until 2027, and it was continued also fully undrawn as per quarter end. If we then look at the $3.3 billion bridge facilities related to the Stanley transaction, here after the successful rights issue last year, we had the remaining bridge to debt facility of $2.4 billion with maturity in July 2024 still to be refinanced.
As we communicated already in October, our strategy was to diversify the sources of debt financing in the takeout while also ensuring we remain with good flexibility in the debt portfolio, if market conditions would improve. And the main reason behind the strategy was that the bond market pricing back in October last year was not very attractive to us at that point in time.
And at the same time, we were also in no rush as we had a 24-month bridge in place with good pricing. The first major step for us in the takeout was to execute a €1.1 billion term loan in the beginning of the year. The facility is four years where the banks and us together can agree to extend for one more year.
Then in the beginning of March, we entered the Schuldschein market for the first time, opening up for us a new source of funding that will also be available for us going forward. Here we raised approximately €300 million, where the majority of the funding have maturity of five years.
This left us at quarter end in a position where we had refinanced the majority of the bridge to debt facility and secured long-term funding, where the term loan and the majority of the Schuldschein can be refinanced in advance, if we would prefer.
Meanwhile, the bond market pricing has improved, which is why we decided to issue a full year EUR600 million Eurobond in the euro market in the beginning of April. The bond was oversubscribed more than three times, and the margin was 120 basis points with a very small new issue premium paid.
And this puts us in a good position today, where most of the bridge to debt facility has been taken out. Only $160 million is remaining, and we have no need from a liquidity point of view to do any further refinance in the coming quarters.
But you may see further activity in the bond market to take out the remaining bridge and possibly refinance part of the other facilities, if the pricing differential is attractive.
We are remaining with floating interest rates for now related to the term loan also related to the new bond and the vast majority of the Schuldschein, while the remaining legacy debt portfolio is a mix of fixed and floating, and we do so to have the flexibility to refinance early. But we may also look into increase our fixed part of the portfolio if yield curves are becoming attractive going forward.
With the existing refinancing in place, we will see a somewhat increased financial net when you’re comparing to Q1 over the coming quarters, of course, then subject to the interest rate movements, currencies and so on.
Looking then at the right-hand side of the chart — of the maturity chart, you see a maturity peak of over SEK30 billion now in 2027, but here it’s important to note that the RCF backup facility that matures that year will be refinanced earlier and the term loan could either be extended into 2028 or refinanced in advance. So, this is very much a manageable position going forward.
Moving to our rating. Here, S&P confirmed our existing rating at BBB- with stable outlook again in Q1. And overall, I would say the dialogue with S&P are positive where they recognize we have taken good actions according to our plans post the Stanley acquisition. And we continue in an unchanged way to focus on our deleverage strategy after the acquisition and remain fully committed to our investment-grade rating.
So, with that, I hand over back to you, Magnus.
Magnus Ahlqvist
Very good and thanks a lot, Andreas for a good overview and a number of important milestones achieved in the quarter. We are at an exciting time now in Securitas and a number of actions that we have initiated during the last few years starting to contribute to building a leading solutions offering to our clients based on world-leading technology and expertise. And the shift in offering is also starting to translate into improving margins.
And I just wanted to make a few comments related to the new financial targets that we announced in August last year to reflect a bit on the strategic direction and how we are shaping the new Securitas.
Technology solutions momentum is good, as we highlighted with 13% real sales growth when excluding the positive contribution from Stanley Security and the margin improvement from 5.1% to 5.8% in Q1 is a clear step in the right direction towards our 8% target by the end of 2025.
So, this is really about shaping Securitas to be future ready, clearly differentiated position and offering in our industry. And how do we achieve this? Well, we have four main focus areas in our strategy. And uniquely position to deliver integrated solutions now to our clients.
And the differentiation enhanced value to our clients will generate significant margin improvement over time. And we firmly believe that the four focus areas to take the leading technology, bringing quality guarding services, we focus on profitability, integrating solutions to our clients and leveraging modern platforms and connectivity and data that we generate to drive innovation will help them transform the company and enable us to reach the targets.
And all of this is based on our view of what it would take to be the winner in the security services industry in the future. And this is a future which is very much about leading presence, connected technology and intelligent use of data.
And looking at the company that we’re creating, we have a unique position now with significant capability in each area and the ability to leverage a combination of these capabilities to deliver the strongest solutions to our clients.
And as we’ve highlighted here during the call, we still have a lot of Stanley integration work ahead of us over the next six to 12 months, but many clients that our team members, and I have been in dialogue with myself during the last few months, and are starting to get really excited about the capabilities that we are able to bring and the partnership opportunities as we go forward. And this will obviously translate to increasing commercial opportunities in attractive business areas over time.
So, to sum-up the quarter, we are executing on the strategy, delivering an improvement in the margin to 5.8%, good commercial momentum, growth with technology and solutions, and we have solid development across the business, but with one weakness now, and that is in security services in Europe, but a known issue, and we are also addressing that with clear actions. Importantly, as we highlighted, we’re also progressing very well with the Stanley integration.
So, I think with that, now happy to open up for the Q&A.
Question-and-Answer Session
Operator
[Operator Instructions] The next question comes from Anvesh Agrawal from Morgan Stanley. Please go ahead.
Anvesh Agrawal
Hi, good afternoon. I got three questions. The first is really, if you can give a bit more detail on the price volume split and what was the impact of hyperinflation in numbers in Europe and Ibero-America and at a group level, that would be great.
The second question is, we see around your long-term margin target in self-help to see sort of guarding and technology margins in the release. But if you take the let’s say the guarding margin close to 5% and technology margin close to 7%, then really your business makes me to 50-50 to get to 8% margin as you need to kind of improve your margin quite drastically in guarding. Wondering how you’re going to achieve that? So, any more color on that would be useful.
And then finally, hence that’s the requirement for working capital for the group has gone up structurally with the integration of Stanley and sort of obviously the start-up cost you will have on some of these installation contracts?
Magnus Ahlqvist
Yes. Thank you, Anvesh. We struggled to hear you very well on the first question. So, can you please repeat the first question related to pricing in Europe?
Anvesh Agrawal
Yes, I just really like what’s the price volume split of the 12% organic? And also if you can give details around the hyperinflation in Europe and Ibero-America, what was the benefit?
Magnus Ahlqvist
Yes. So, when you look at the growth of 12%, there is a few percent on a global level, first of all, if we start in there, which is related to hyperinflationary environment in Argentina and in Turkey. So, we’re essentially saying then around one-third of the growth.
And if you look then at the — and that obviously means that when you think about the growth, which are the main drivers, well, price increase is by far the most significant. And here, we are doing a good job in terms of managing the balance between wage and price. But we also have really strong growth in terms of solutions and technology.
And there, I would say that is less inflation driven. That is more kind of real volume growth on integrated solutions and also on the technology business. So, that is a positive one.
If you’re looking at Europe and the growth rate of 13%, and I don’t know if you’ve mentioned that specifically, but I addressed the question regardless. We estimate around 3% of the growth in Europe related to Turkey. So, that is the inflationary impact.
If you come then to the next — or to the second question in terms of the long-term margin targets, and I’m glad you bring that up. And that’s also the reason that we have decided to be more transparent as well in terms of the sales growth, in terms of the operating result and also the profitability of the two main lines of the business, if you will.
Your assumption is correct in the sense that 8%, we will get there when we are driving really good — sorry, growth in technology and solutions with a significantly higher margin profile. So, that’s going to be fundamentally important driver together then, obviously, with synergy realization, cost synergies in the near term, more commercial synergies in the midterm, leading up to the end of 2025. So, that is number one.
But if you then look at the margin of the security services, which include on-site, it includes mobile and also the Aviation business. When I look at that margin of 4%, a little bit more than 4%, 4.3%, goes without saying that, that margin has to come up quite significantly as well to be able to get to the 8% number.
And that is the reason that we’re saying we take a really firm stance in terms of active portfolio management and where I would like to see, frankly speaking, stronger and faster actions as well within the business with our clients because that’s the only way that we’re also then helping and shaping a guarding business, which is more healthy from a profitability standpoint.
What I should highlight is that there are some significant differences between the different divisions and the 4.3%. It’s a significantly higher margin profile in North America.
And as we highlighted and I also commented on before, our margin generation in Europe, which is the other big part in terms of on-site guarding underperforming in the first quarter in this environment. So, that’s obviously further granularity just to give some further understanding in terms of the 4.3%.
Third question, Andreas, on working capital.
Andreas Lindback
Yes, would you mind repeating that it was a bad line? So, could you repeat the third question, please?
Anvesh Agrawal
I’m sorry for that. So, my question was like has your working capital requirement structurally has gone up with the integration of Stanley and probably the start-up cost on the installation contract and everything will kind of there, if you assume the growth will be strong in the technology solution? So, I know like there is some impact of inflation, but like has it structurally gone up now?
Andreas Lindback
Yes, I mean Stanley is coming, and I would say, as expected and as we also explained in the Investor Day there last year. I mean, from a CapEx perspective, if you’re looking at Stanley, very much similar to ourselves, less than 3% CapEx to sales, more maintenance CapEx in that business.
And when it comes then to the working capital profile of Stanley, it requires higher working capital compared to a guarding business. So, — and there, around 20% working capital was the guidance.
And like you rightfully say there as well, if you dig in a bit deeper into the Stanley and overall technology business overall, you can say that the installation side of the business, which is around 60% in Stanley’s case, that has a higher working capital requirement compared to the other 40%, which is more monitoring and maintenance where clients normally pay in advance with shorter payment terms.
On the installation side, it’s all about really solid project management, really important to make sure that you contractually make sure that you can invoice throughout milestones throughout the products rather at the end of the contract as well. So, with those two components, you can really improve working capital. But all-in-all, yes, the technology business requires higher working capital, and we have said around 20% of sales.
Anvesh Agrawal
Thank you.
Operator
The next question comes from Stefan Knutsson from ABG. Please go ahead.
Stefan Knutsson
Afternoon Magnus and Andreas. Just a question regarding the margin in Europe here. Can you give some more flavor on how much the increased costs that you have their weigh on margins? And how much of that is attributable to the start-up costs in Aviation?
Magnus Ahlqvist
Thank you, Stefan. Maybe start with the easiest one, and that is — I mean, we wouldn’t really mention cost unless it’s an impact of 0.1 or higher on the margins. So, I think that is important to highlight. When you’re looking at — and maybe to give some further flavor on this, because we — yes, there’s essentially two sides. Solutions and technology business in Europe is really progressing well, and we have good momentum.
But when you’re looking then at the more the on-site guarding part of the business, there are a few key factors. And the labor shortage, maybe to elaborate on that a little bit, it essentially means — I mean when you look at some of the key markets in Europe like Germany, but broadly speaking, also at averages, I mean, the unemployment rate is at historic lows in the first quarter.
And that has — and we’ve seen some improvement on that, I should say, in recent weeks and months. But it’s only some improvement coming from very low levels. So, that means that it’s been a challenge to find people.
What that means, it means that we need to resort for existing business to leverage more of subcontractors. That obviously has a margin impact because the margin is shared between ourselves and the subcontractor and that has a negative impact. That’s obviously something that we try to minimize to the greatest extent possible as soon as we can as well to make sure that we improve.
But we also have a negative impact from reduced extra sales. So, when you’re looking at the extra sales in Europe are also now running at significantly lower level because we just cannot take on what is normally more lucrative business due to the nature of extra sales in that type of labor environment.
The start-up costs related to Aviation, that is quite normal. And there, we had some start-up costs at the end of last year, but the vast majority was in the first quarter, and that is coming down quite significantly in Q2, which is normal when we are starting a larger contract along those lines. So, those are some of the main points in terms of what are the dynamics here.
But I think also, given that, I mean, I expressed myself that we are below expectations. I think it’s also important to then talk about the actions in terms of what are we actually doing. And we are increasing the margin requirements for new contracts. In this type of environment, that’s the only rational thing to do.
We also need to step up now and accelerate the work that we do in terms of addressing renegotiating or actively terminating lower-margin contracts. And that work, we have some progress, but I would like to see more within the business and from our leaders.
But then obviously, we also had a negative cost leverage when we look at the indirect costs. And that is something that with the 13% growth, we need to make sure that we have a positive cost leverage as well because these are very high numbers.
And then you can argue then, well, what are the reasons? Well, some of that is related to an inflationary environment where there is a number of other indirect costs where there is pressure upwards. But that we are addressing with significantly tighter cost management as we go forward.
And that is also something which our team is to take a stronger and a firmer grip essentially, which should be a normal part of the business. But that is important in a few markets, especially where we have negative cost leverage, which is not acceptable given the type of growth that we have.
So, I hope, Stefan, that, that gives some further flavor to the dynamics, but also what we are doing in Europe to address the situation.
Andreas Lindback
It is important to mention also in the Aviation business, we see strong growth, as we are saying, but we also have natural seasonality, just complementing the startup cost here as well. There is a natural seasonality where normally, the first quarter is also weaker from a volume — from sort of a volume and profitability perspective there. So, we expect improvements in the Aviation business going forward based on that as well.
Stefan Knutsson
Thank you very much for the comprehensive answer.
Magnus Ahlqvist
Thank you.
Operator
The next question comes from Viktor from Carnegie. Please go ahead.
Viktor Lindeberg
Thank you. A couple of questions from my side. Maybe starting off from your cost savings you announced in conjunction to the Stanley acquisition being about $50 million. Could you give us a number where you are now in terms of run rate and maybe what we should expect for the year as such?
Second question, looking at Stanley last year, it had a weaker margin performance in the first half. And how are you now progressing year-over-year on trying to look like-for-like in that context?
And then thirdly, looking at actually your annual report data and looking at bad debt provisions, it seems you increased the bad debt provision losses quite a lot last year. So, from 5% of accounts receivables in 2021 to about 7%.
So, quite a conservative view there just to see how your reasoning behind that and if that is something that has continued now going into 2023 and thereby actually holding back your margin performance a bit there starting off there? Thank you.
Magnus Ahlqvist
Viktor, so on the first question in terms of Stanley, we are progressing very well on the totality in terms of the cost synergies. In terms of timing, significant progress in North America, which has always been the first priority given the size of the business. And so there, I would say that we are ahead of plan.
Now, a lot of the focus is in Europe over the coming months essentially. If you want the number out of the $50 million, roughly one-third is what we have achieved to-date, but a lot to achieve now in the next six to 12 months essentially. And it’s just important to highlight as well that the growth is improving quite a lot coming a little bit into your second question on the — but that’s on the legacy side.
So, what we had in technology in Securitas before, but it’s also in the acquired Stanley business, and that is improving very significantly compared to a very weak first half of 2022 before we own the business. So that, I think, is really positive because that was obviously a concern also for us when we looked at the numbers in the spring and summer of last year, but then a clear improvement.
And I should also highlight that, that improvement is also happening with a good focus on our clients, on driving commercial engagement, while at the same time, driving a very extensive integration work because this is integration across 12 markets, as you know, three in North America and nine in Europe.
So, Stanley, when you look at this underlying business also before then the cost synergies, there is significant improvement in the first quarter, and it’s also a healthy order book as well when you’re looking in terms of the business ahead.
Andreas Lindback
Agree there. And when it comes to the bad debt provisioning, overall, I mean, we have our sort of rules around bad debt provisioning, which I borrow absolutely as a business. We are fairly prudent there. And as you know, we also took a few years back some larger bad debt provisioning as well.
So, we feel that we are prudent on the bad debt side overall. And then like you rightfully say, there is an increase there in the annual report as well. And some part of that is also relating to the opening balance from Stanley coming in as well.
Viktor Lindeberg
All right. Thank you. It sounds maybe just to understand you correctly here that the synergies are actually running quite well according to at least my own estimates and Stanley seems to be sort of back on track as well. So, maybe that simplicity author testifying that your margins in Europe are actually quite intrinsically quite hampered now by costs running high.
So, when you — A, is that correct? And B, when looking at this, maybe thinking about the crystal ball going forward, do you believe that you will be when we enter the second half of this year when looking maybe not price wage, but price cost adjusted, they’re taking also indirect and subcontractor cost into account, do you really believe that you will be on par going into the second half, given actions taken today and also price adjustments?
Magnus Ahlqvist
Yes. On your question — hey Viktor, yes, correct. But with the addition there that we are tracking well on the cost synergy side. It is mainly so far coming into North America. That’s where we see the positive impact there from the synergy takeout.
And then in Europe, we have good progress now in the first quarter, but here we expect more synergies to come out, and that’s really where we are focusing in even more now. And as planned, Europe was supposed to come after North America as well. So, yes, but more impact from the synergies in North America.
Andreas Lindback
And then maybe I can comment on the second question. I mean, we don’t give guidance, as you know, but if you look at, okay, how do we influence the labor scarcity. What we can do and what we have to do is to be extremely disciplined in terms of existing contracts. That’s why we talk about active portfolio management.
It’s about also making sure that we are increasing the requirements in terms of new business to make sure that what we bring in is also accretive to the margin journey and the targets that we have set until the end of 2025. So, I think that’s an important one.
When you look at price wage, there we are balancing, but we also sometimes refer also to price production cost as well. And when you take a broader perspective in terms of price versus production cost here, I think there is more work that needs to be done because there has also been upward cost pressure in Europe on a number of other categories that are more than indirect type of categories.
And there, frankly speaking, we need to do much better that we need to take a significantly stronger grip on those as well to make sure that we are improving because this performance, like I said, on the totality, when I look at the results overall, we are on a really good path.
Europe on that part of the business in Europe, not performing well enough were in line with the expectations. So here, we also have a clear action plan in terms of how we drive that to get also necessary margin improvements in the next couple of quarters.
Viktor Lindeberg
Thank you. Thanks guys.
Operator
[Operator Instructions] The next question comes from Raymond Ke from Nordea. Please go ahead.
Raymond Ke
Hi. Two questions for me. First one, regarding factoring. Just curious, do you include the use of factoring in your own cash flow forecast? And how much have you used factoring historically, if any? And second one, what level of cash do you need in your bank to run your operations basically?
Magnus Ahlqvist
So, question number one, simple answer, no, we do not use factoring. We have not used it in history neither. So, just to give a direct answer on that. And then I think you can say the current liquidity levels where we are right now, SEK5 billion to SEK6 billion, that is working well for us overall from a liquidity perspective.
I mean what we’re trying to do is, of course, we are centralizing cash management as much as possible, reducing local cash position to the maximum extent possible to make sure, of course, that we are not — given we’re in a debt position we will be paying interest rates otherwise. So, I think we are on a fairly good level.
And we should remember, of course, that we have the RCF fully undrawn as well, which is more than €1 billion from a liquidity perspective as well. And we also have a commercial paper program of SEK5 billion as well.
So, I would say, liquidity position very strong. And then we try to minimize basically the cash in operations as much as possible on a daily basis, but with these backup facilities in place.
Raymond Ke
Great. Thanks.
Operator
The next question comes from Karl-Johan Bonnevier from DNB Markets.
Karl-Johan Bonnevier
Yes, good afternoon Magnus and Andreas. I appreciated all the color on the European operation, but it would be good to hear your comments on how you see your actions within the contract portfolio management going? And what kind of opportunity you see for a step up?
And then I guess most of that step up is probably related to Europe, if I understand it right, given the struggles you have for matching contract costs and opportunities.
Magnus Ahlqvist
Yes, thank you Karl-Johan. So, I think what you can probably sense from my comments is we need to do more. We need to be more active. And that is something that I’ve commented on before as well. It is somewhat of a cultural change as well for a lot of leaders. But we need to be former.
We decided that before there was labor scarcity. It’s the only responsible thing for us to do in terms of shaping a Securitas, which is more high quality, more technology, more solutions, higher client value and in the end, also more satisfied clients. All of this is linked.
So, I think that is one that when we talk about that, this has been a change that we started initiating in the aviation space with really good results. And that was somewhat triggered a few years ago because of the COVID pandemic and the crisis that we had there in terms of rapidly falling demand. But we have learned from that.
What we need to do now is we need to roll this out, and we need to drive this at scale. And that has to happen in every major contract and client engagement that we have. And there, I would say some leaders, they do that really, really well. They take responsibility. They understand it and they drive it. Some we also need to really, really help and get on that journey.
And part of what we’re doing there is also improving financial visibility with increased benchmarking so that we can also see on a global, on a divisional, on a country or an area, on a branch level exactly what is the state of the profitability in every contract because we deliver really good value.
We are, by far, the company with the best more future-oriented offering in terms of technology and solutions offering, and we need to charge reasonable price for the services and the value that we bring.
So, I think this is not something that is going to change as a strategy. It’s just a matter of intensifying the execution of this important work. And it’s even more important when you look at the labor market, which is the way it is right now. And I cannot take for granted or expect that it’s going to become significantly softer labor market ahead. I mean there are many indications that it might. And that is normal if there is more kind of recession tendencies coming.
But this is regardless of the external environment, we know what our targets are. We know what type of company profile that we want to shape. Now, we need to make sure that everyone is going in that same direction.
So, that’s the view, Karl-Johan, from our side. And we have, like I said, taken a lot of measures that also give us better visibility through transparency as well to now really put these actions firmly in place.
Karl-Johan Bonnevier
And when you look at the transparency that you have now done, as you say, on the contract level, basically in your systems or your structure. I remember you described this as a traffic-like system with green, yellow, and red. How have you seen the yellow and red components of this, say, developing now when you increase the yield, say, the hurdle rates, as I understand it as well on contracts of what you’re looking for?
Magnus Ahlqvist
Yes. So, there is a fairly significant part, which is red, and red obviously means it’s not good. And so that is the highest priority in terms of addressing, but then we’ve also coming into how we are shaping this then. We also have a yellow category, where we’ve essentially set the benchmark in line with what we want to achieve by end of 2025 in terms of achieving 8%. So, that everyone also knows exactly what does good look like.
Not only am I driving some incremental positive change compared to last year, but rather through the lens of, okay, looking at the targets that I have in terms of end of 2025, how do I need now to improve and to shape my business to be able to support that.
So, I believe this has been a historic Securitas strength. We have, yes, reenergized and refocused effort on this kind of transparency in benchmarking. And there, I should also highlight that. I mean, in some parts of the business, like in North America, where we have come much further in terms of the transformation program and new modern systems. There, it’s more automated, it’s easier, better transparency. Europe, we still have quite some work to be done here.
But the important thing as well is that good business management I mean regardless of what system we have, this is the responsibility to track that and also to take actions continuously to make sure that we are improving the overall health of the portfolio.
Karl-Johan Bonnevier
And when you compare the transformation program that seems to delivering so well in North America and compared to where you now are in the European Ibero-America similar programs, what is the big difference compared to what you were managed to say, deliver in the early part of the US program compared to what you see in Europe?
Magnus Ahlqvist
Yes. So, in the US, I mean, one thing is an important point is the timing. We kicked off the work in North America a few years before. We kicked that off in Europe. And that was also according to plan because we also needed to face some of this heavy lifting, but also to make sure that we can learn from the work that we did in North America going into Europe.
One important difference is the starting point. North America, 90% roughly is the US So it’s essentially one market, one country. In Europe, we have a much more diverse starting point, which we have been clear about from the beginning. So I think that, that is one.
That obviously also means that there is a scale benefit in North America as well in terms of the investments that we are making and how we can then also leverage each invested dollar in North America to benefit of the business at scale. So, I think that is where you also see more of a phased approach looking at Europe.
But we’re designing now. And I mean the European program, I should also highlight, one of the important parts there was also to stand up more of a solutions-focused organizational leaders that we have done and the European team is delivering really good growth and momentum also in terms of solutions. So, that part of the program I am happy with.
If you look at the systems and the modernization and transformation here as we communicated before, we have some delay in that work. And that is partly because of how we are building the kind of the common core and the engine for the first countries. But it’s also that we have paused somewhat the pace because we also need now to make sure that priority number one is the integration work we do with Stanley.
And when we are building and migrating to new systems that we don’t do that work twice because that will well over a three or a four-year timeframe then in excessive cost essentially.
So, that’s why we’re also doing a little bit of a somewhat of a retake, I would say, to make sure that we now locked down the delivery plan in terms of the European transformation program, driving the progress over the next six, 12, 18 months, but then also at the same time integrating the Stanley integration planning into that work.
Because that is something as well when we know that when we have strong systems with the market relevance and also then the commercial pool and demand that we also see happening now together with Stanley because there’s a number of really positive discussions where I think we have also once and for all, changed the perception of Securitas as well.
People know that we have really the credible technology capability now. But we need also for the mid and the long term, make sure that we’re operating on modern systems on the same systems as well. So, there is some — quite some complexity in that work, but we work based on our conviction about the value that we generate when we get all of that in place.
Andreas Lindback
You should remember also that the Stanley acquisition was a carve-out. And so that also creates complexity as we need to stand up a lot of the indirect services ourselves. And that is what we are in the middle of right now. It’s progressing well, but it’s also creating complexity in that integration work.
Karl-Johan Bonnevier
Excellent extra color. Just one final question from me. Thank you very much for the breakdown also on profitability, on technology and the guarding operation is obviously a key business driver for you.
If you look at the 4.3% coming out of the guarding operation, would you say that if you compare it to last year, I know you don’t give us that now, but the feel, how would that be sort of for the margin progression in the guarding operations year-on-year?
Andreas Lindback
To give you a feel, we are very satisfied with the progress we are making in North America in the guarding business and overall, as we have said. And I think it’s fairly clear based on also Magnus’ comments here, we are not satisfied with the progress on the guarding side in Europe. So, did we have it.
Magnus Ahlqvist
And I think–
Karl-Johan Bonnevier
If I can do my own — to take inside of that is that maybe still guarding margin would have been up to 10 to 20 bps year-over-year still even in Q1? Would that be a fair assumption?
Andreas Lindback
Can you repeat that, Karl-Johan? What did you say in terms of the number of–
Karl-Johan Bonnevier
When I try to break down the historical performance on the same kind of profitability line that we’re now starting to report, my take on Q1 last year would have been the margin closer to 4% rather than 4.3% to 4.5%. Is it fair to see that you are already in a positive margin progression, maybe mostly helped by the US to be fair at this stage, but even having that impact on group level?
Andreas Lindback
I think it’s important. I mean, the reason why we are not giving last year is, right, because we’ve done serious work to make sure we have really good quality on the business line reporting right now. But we have not come back fully last year to restate it because it’s complex work. So, that is why we are not giving a number here.
But North America, good progress. Europe is not good progress. But also remember there, you have the Aviation business that we have commented upon with the start-up costs as well, taking sort of the security service business line down further. So, trying to give you a bit of color here, but I do not want to give an exact number given the work that we have done here.
Magnus Ahlqvist
What is clear though, Karl-Johan, is — I mean what is clear is that the ambition is clearly higher than this 4.3%.
Andreas Lindback
I think that is a fully agree or we’re satisfied with what we’re reporting in Q1 on the security services side, no, we’re not.
Karl-Johan Bonnevier
Excellent. We look forward to follow the progression and all the best out there.
Magnus Ahlqvist
Thank you.
Operator
There are no more questions at this time. So I hand the conference back to Magnus Ahlqvist, President and CEO, for any closing comments.
Magnus Ahlqvist
Many thanks, everyone. As I said at the beginning, on the totality, we are driving progress in line with our strategy. We have a number of highlights. We have one area that we discussed quite a lot now in the kind of the guarding related business in Europe. But on the totality, we are increasingly strengthening our position in the market and executing according to the plan. So, many thanks, everyone, for your engagement today. See you soon.
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