Grupo Industrial Saltillo SAB de CV

BMV:GISSAA

Earnings Call Transcript 2021-Q4

[Operator]

Good day, everyone, and welcome to Grupo Industrial Saltillo's Fourth Quarter 2021 Earnings Conference Call. Joining us today is Grupo Industrial Saltillo's, Chief Operating Officer; Mr. Jorge Rada; Grupo Industrial Saltillo's, Chief Financial Officer, Mr. Saul Castaneda; and Grupo Industrial Saltillo's, Investor Relations Manager, Mr. Arturo Morales. Please be advised that this call is for investors and analysts only.

During this call, they will be discussing Grupo Industrial Saltillo's performance as per the earnings release issued yesterday. If you did not receive the report, it is available at www.gis.com.mx at the Investor Relations section. We encourage you to follow along with the onscreen presentation. [Operator Instructions]

Let me remind you that forward-linking statements may be made during this conference call. This are based on information that is probably available and subject to change due to a number of factors. For a more detailed and a complete disclaimer, please refer to the earnings release. Also all figures discussed are in American dollars unless otherwise stated.

It is now my pleasure to introduce the Grupo Industrial Saltillo's team. Now I hand the call over to Mr. Jorge Rada. Sir, you may begin.

[Jorge Garza, executive]

Thank you very much, Manuel, and thank you all for joining us today. On behalf of GIS, we hope that you and your families are in good health. As you know, 2021 was a year of challenges and disruption for several industries. Nevertheless, GIS was able to achieve double-digit growth in sales and EBITDA on a full year basis. In this sense, external and temporary challenges affected the automotive industry outstanding the following.

First, the global shortage of semiconductors. The supply of these components has gradually started to normalize, thus bringing positive prospects. In this regard, the important recovery of vehicle production in the following quarters will allow the industry to serve the pent-up demand and replenish inventories of car dealers.

Second, on raw material prices. At the end of 2021, the prices of scrap iron and ferroalloys did not experience additional significant increases, but remained at high levels, allowing us to minimize the impacts of the 3- to 4-month lag in price indexation. When prices start to bounce back to normalized levels, we will be able to recover the impacts from previous quarters as we could have benefits for metal lag in a downward trend.

And third, on high energy costs in Europe. As we explained last quarter, energy prices in this region increased up to 5x, impacting the profitability of many industries, including our operations. Although forward energy prices continue showing the stabilization trend towards mid-2023, we have moved forward in negotiation with our customers to strengthen our contracts and recognize in our commercial agreements, the energy price fluctuations providing certainty and stability to our operations.

2021 was also a record year in new programs, awards for Draxton, reaching 124,000 annual tons, which is equivalent to 20% of the current installed capacity. This achievement reflects Draxton's strong competitive position. Consequently, we have decided to invest $55 million on value-added processes such as machining and plating to increase our capacity and strengthen our presence in North America.

Also in Europe, we will increase our machining capacity mainly for differential cases aimed at the electric vehicle platforms in Spain with an approximate investment of $10 million.

I will now hand the presentation over to Saul Castaneda, our CFO.

[SaúlCastañeda de Hoyos, executive]

Thank you, Jorge, and good morning, everyone. I hope you and your families are healthy and safe. Revenues for the quarter reached $250 million, 8% higher than 4Q '20. GIS P&L top line had shown a stable trend, in which semiconductor shortage impacts have been mainly mitigated with Draxton's incremental volumes of sales, coupled with the benefit of raw material price indexation.

During 2021, revenue achieved a new record high of $997 million. This figure represented a 34% annual increase that was mainly driven by Draxton raw material price indexation formulas to pass through upward adjustments of scrap iron and ferroalloy prices. Higher volumes in Draxton supported by the launching of new products and a strong dynamism in the Mexican market and higher exports in Vitromex and Cinsa.

On a full year basis, consolidated EBITDA was up 23%, mainly due to the extraordinary profitability turnaround in Vitromex that boosted EBITDA from $7 million in 2020 to $26 million in 2021, fully offsetting surge in prices in raw materials and energy.

Regarding fourth quarter results, as Jorge just mentioned before, temporary challenges in the auto industry impacted consolidated EBITDA reaching $21 million with an 8% margin. Excluding the unprecedented energy price surge, consolidated 4Q '21 EBITDA margin would have been 12%.

We closed the year with a net leverage ratio of 1.5x and no debt service payments required for 2022. Our strong financial position will support our growth CapEx, while providing a solid ground to analyze the strategic opportunities to further value creation.

As has been pointed out, GIS will invest $140 million over the next 2 years. Considering automotive industries sound fundamentals and Draxton's market positioning, around 70% of that amount will be related to projects for the auto parts segment. Besides the second quarter '21 announcement, of any investment of $30 million to increase our casting capacity in Draxton San Luis Potosí. We will be making further investments up to $65 million to expand our machining capacity in North America and Europe as well as to venture into new value-added processes.

In the other hand, in Vitromex, we will invest $25 million on modernization and even more important to expand our capacity by installing a new kiln in San José Iturbide. As you may remember, an $11 million investment was announced in the previous quarter, also to increase production capacity, strengthening and aligning the business installed capacity to the market needs.

I will now hand the presentation back over to Jorge Rada.

[Jorge Garza, executive]

Thank you, Saul. Shifting now to the automotive industry developments. In North America, vehicle sales showed a recovery trend. In the accumulative figures of 2021, auto sales grew by 3.8%. Despite of this quarter's 20% drop that followed the global shortage of semiconductors, which affected production of vehicles throughout the year. We remain optimistic on vehicle production in 2022 as the gap in the supply of semiconductors have been reduced and will continue to reduce throughout the year.

Sales in Europe during 2021 remains in line with the previous year, although vehicle production fell 5% on a year-over-year basis, following the limitations in the supply chain. And in line with North America, vehicle production and inventories have started to recover. China vehicle sales slightly decreased in 2021 versus the previous year and deeper production increased at a higher rate of 4%.

In this geography, the disruption derived from the semiconductor shortage didn't affect last quarter as it happened in other markets.

Now moving on to Draxton's performance. Although temporary external challenges have affected the vehicle production, the impacts in Draxton has been lower than those observed in the industry, mainly due to the programs previously captured the started production during 2021, especially in North America. Consequently, casting volume at this region was up 26% in 2021 and further volume expansions are expected as the industry normalization moves forward in 2022.

In Europe and Asia, our casting volumes grew by 15% for the full year 2021 despite last quarter's decrease of 16%. In addition, machining volume grew by 10% in 2021. In line with our strategy to increase our participation in value-added processes, we started operations in our first machining line in China, which is mainly oriented to differential cases.

2021 sales were up 36% versus the previous year, mainly due to the increase in volumes and indexation of scrap iron prices. For the fourth quarter, Draxton posted sales of $169 million, which represents a 6% annual growth. 2021 full year EBITDA closed at $97 million, 4% higher than 2020, impacted by the global semiconductor shortage, higher prices of scrap iron and unprecedented rises in energy cost in Europe.

As I previously mentioned, we are working to close negotiations to include the additional energy costs in the price formulas. This strategy for the expected normalization in semiconductor supply and scrap iron and ferroalloy prices will boost Draxton's profitability over the following quarters.

Over 2021, Draxton achieved new contracts for -- sorry, 124,000 tons per year, GIS's record level. More than 85% of these volumes awarded are compatible with electric vehicle platforms, thus strengthening our strategy to align our product portfolio to the global trend. In addition to the operation startup of our machining line in China, we will be deploying investments of $65 million in the following years to increase our machining capacity in North America and Europe, but also launched additional value-added processes in North America. These efforts will strengthen our position and allow us to continue growing in the industries value chain.

Now moving on to Vitromex. Vitromex's revenues grew by 19% on a year-over-year basis, driven by domestic market, a more favorable product mix and a significant increase of exports. The investments deployed throughout the year for capacity reconfiguration allowed Vitromex to increase volumes and post the highest quarterly sales over the fourth quarter of 2021. On a full year basis, EBITDA more than tripled to reach MXN 522 million with a margin of 13%. This growth follows the profitability recovery program implemented in the business that is oriented to continue achieving further efficiencies in our operations.

As the deployment of the capacity increase announced last quarter and moves forward, we will invest an additional $25 million for modernization and to install a new line in our San José Iturbide site. These investments will help us align our capacity and better serve the industry's future demand.

Now regarding Cinsa. Top line grew 43% in 2021 versus the previous year, higher exports to the U.S. and a better product mix allow the business to continue its growth trend throughout the year. Although the fourth quarter of 2021 presented some headwinds asserting raw material prices, the dynamism achieved in sales allows Cinsa's EBITDA to grow 49% in a full year basis.

With this, I conclude my remarks for today. Thank you all for your attention, and Manuel, please begin with the Q&A session.

[Operator]

[Operator Instructions] Alan -- go ahead, Alan Díaz.

[Alan Díaz Solano, analyst]

Can you hear me?

[Operator]

Yes.

[Jorge Garza, executive]

Yes.

[Alan Díaz Solano, analyst]

Well, my name is Alan. I'm from Apalache Análisis. I have 4 questions. The first one is what is the percentage of contracts that have the price of energy in [ Brexit ] in Draxton?

The second one is despite the conflicts in Europe and the increase in energy prices, will you continue with your investment plan to increase the production capacity of machining in this region?

The third, in your report, you mentioned an investment that will triple the machining capacity, by what date do you estimate this increase in capacity will be observed? And finally, in the case of Vitromex, have you observed a lower demand for your products due to the regulation -- regularization of economic activities? And that's all my questions.

[Jorge Garza, executive]

Alan, right? That's the name?

[Alan Díaz Solano, analyst]

Yes.

[Jorge Garza, executive]

So 4 questions. I hope I can remember the 4 questions, but I will start with the first one. Well, we have been working very strongly recently to try to negotiate with all the customers, especially in Europe, where the energy prices have been growing dramatically in the last months to try to recognize in the formula, the energy prices. As you know, this is normally in the industry that raw material prices are indexed, okay? And for that, we don't have any concern. The only concern there for the raw material is basically the metal lag. So when there is a sudden increase in raw material prices, we suffer for a while until we can adjust these prices to the customers.

In the energy, that was not the norm in the industry. So we have been very successful reaching, I would say that we are very close to 3/4 of the volume that is already indexed, and we are pretty sure that we will get very close to 100% pretty soon, okay? So we are transferring all this information to the customers they acknowledge the situation in which we are in, all the industries suffer from the same situation. So we are very optimistic that in the next weeks, I would say, we will be achieving our target of getting practically all the contracts in Europe indexed for the raw materials.

Okay. Second question, can you remind me is about...

[Alan Díaz Solano, analyst]

Well, despite the conflicts in Europe an increase in energy prices, will you continue with your investment and plan to increase the production capacity in this region?

[Jorge Garza, executive]

Well, yes, actually, basically, what we are increasing, Alan, is machining capacity. We are not adding at this moment, foundry capacity because we have the capacity installed that is required for the order book. As I mentioned in the remarks, we have been very successful gaining new businesses in 2021. Actually, '21 was a very good year. It was a record in the history of Draxton. We achieved 124,000 tons of volume. This volume is achieved, let's say, ongoing volume, not in the first year. Volumes normally are growing. And then once you get to the, say, [indiscernible], we reached 124,000 tons.

The investment is basically for the volume that we are gaining, or value added. It means in some of these contracts, we need to machine the parts. And normally, the machining is modular investment. You don't invest in a line and then you wait for the volume. What we are doing is we are investing because we are -- we have the contracts. So we are going ahead because our customers are pretty much let's say, certain that these volumes will materialize. We have contact with them. And the good news is that most of these contracts are for electric vehicles, which is the trend in the world. So we are very happy that we are getting contracts for these kind of vehicles, and this is a pretty good news, I would say. Not in foundry. In foundry, we have the capacity to, let's say, phases volumes, in the machines where we are making these investments in Spain.

[Alan Díaz Solano, analyst]

Perfect. And in the case of Vitromex, have you observed lower demand for your products due to the regularization of economic activities?

[Jorge Garza, executive]

To tell you the truth, no. And that is why we announced previously an investment to increase capacity in our San José site for a kiln. And now we are announcing another investment, which is really good news for us and for the market because we see a very solid demand continuing. And also, we have -- remember that we are exporting to the U.S. So we have 2 targets, the Mexican market, which is still very solid. And also, we are continuing with our strategy to continue growing in the U.S. So that is very good news, and that's why we are deciding to make more heavy for these investments in Vitromex.

You have 4 questions, this 3, right? No? Okay. If you have any more questions, we are here to answer, Alan.

[Operator]

Next questions come from Alejandro Azar.

[Alejandro Azar Wabi, analyst]

I have several questions. The first one is Draxton or the first 2. You mentioned 20% increase or new contracts in this year that this should begin in the next 2. However, I've seen your utilization rate in Draxton on casting volume and 50% -- around 50% seems pretty low. How are you seeing your utilization rate in 2022? How are we seeing growth in terms of volumes in 2022?

And the follow-up on Draxton is on EBITDA, an EBITDA of $97 million, which compares to 2020 when you have 2 months of shutdown seems pretty low. I understand that there's -- there were some impacts in terms of raw materials. Just what I want to understand here is how do you see your EBITDA when you are excluding those impacts. And if you don't see those impacts in 2022, those would be my questions on Draxton.

[Jorge Garza, executive]

Thank you, Alex. Look, the capacity utilization, we have 3 regions. Remember, we have the North American business unit, and we have a business unit that is Europe and Asia. And if we go by regions, I can tell you the following. In Mexico, which is the North American market, we need to invest, actually remember that we announced last year, $30 million investment in expansion in our plant in San Luis Potosí, mainly because we have additional [ brake ] components business. We are analyzing the market, and we see relocalization of businesses from China to Mexico and from the U.S. to Mexico. So it's a near shoring, okay? And this is creating additional demand for these kind of products in Mexico. So most probably, we will have to add another line in Mexico to face the contracts, remember what we mentioned before today that it was a record year in terms of new programs awarded for Draxton. So with that, we can imagine that the capacity will not be sufficient to pace the contract that we have received from the customers in North America.

In the case of Europe, we don't have to have foundry capacity. We have enough capacity for the contracts. And what we are doing is to add finishing or machining capacity because some of the contracts that we have received, include the machining process, okay?

In China, we are having very successful gaining new contracts also. And we don't really need to add capacity for foundry pretty soon. Probably, we will have to add capacity for melting, which is at the moment, our bottlenecks. But we see that we will need that capacity because the program that we have received required for the next 3, 4 years, additional volume and our limitation at the moment is melting. So we don't have to other lines, but we might need to have melting capacity in China. So with that, I think I answered the first question, correct?

[Alejandro Azar Wabi, analyst]

Yes, yes. Definitely, Jorge.

[Jorge Garza, executive]

And the next one is regarding the impact, okay? Maybe Saul can help us with the numbers but let me just make an introduction. Definitely, the price of the energy in Europe hit all the industry. Everybody was hit by that, even on a personal level, everybody has to pay higher bills for electricity at their home, okay? That is a fact. But what we are doing is to transfer these impacts to the customers and to the customers of the customers. So this is in the value chain and expected normalization with a situation in Russia and Ukraine, we don't know what is going to happen. But before that, we were negotiating to [indiscernible]. We think that we will have the recovery of the margins throughout the year. And maybe Saul can help us with the numbers.

[SaúlCastañeda de Hoyos, executive]

Sure. Thank you, Jorge, and thank you, Alex, for your question. It's a very good question, in fact, because the impact of -- for Draxton in 2021 was around $32 million. It was a big hit. So as Jorge mentioned, we are expecting a normalization in the EBITDA growth for 2022. And even if you take a deeper look in that impact, half of that impact was energy. And as Jorge mentioned, we are -- have very good news regarding index negotiation. So we are pretty confident that we can boost EBITDA for Draxton in the upcoming quarters.

[Alejandro Azar Wabi, analyst]

Excellent. Just to be on the safe side here. So you -- half of that impact is energy and your negotiations are going, or you think are going to be successful in the coming months or quarters. And the energy indexation in your contracts, is that for 100% of your European operations?

[Jorge Garza, executive]

Yes. We are focusing on the European operations. However, we are doing the same effort everywhere else because we don't want to get caught in the same situation if something happens suddenly in North America, for example. So I think, as I mentioned before, the norm at the moment is raw materials are standard, they are indexed. It is normal in the iron and aluminum and other kinds of industries for the automotive sector. Now we think that the indexation of energy is going to be also the norm in the industry.

[SaúlCastañeda de Hoyos, executive]

Exactly. And as I mentioned, Alex, half of those $32 million of the impact was related with energy.

[Jorge Garza, executive]

And the other -- I mean, another impact I mentioned already, but I think it's good to remark is metal lag. Remember that last year, the raw material prices were growing very fast. And every quarter, we have to pay more for the raw material, but we can adjust the prices only 3 months after the prices were increased. The cost -- the raw material was increased. So another big portion of that difference versus a normal, let's say, EBITDA margin was metal lag.

At the moment, if the raw materials continue to stay high and there is no additional increase in prices because they are really high, there shouldn't be any metal lag impact. On the contrary, if the raw material prices go down, then we will see a temporary benefit during that period of time where the raw materials come back to normal.

[Alejandro Azar Wabi, analyst]

Okay. And if I may, just one on the other businesses, mainly Vitromex. How do you feel in terms of natural gas prices, if we were to account for -- I know there's too much volatility around them, but thinking about north of $4 BTU, how do you feel on Vitromex margins? And if you see the new investment that adding a new kiln in a current plant will support your fixed costs?

[Jorge Garza, executive]

Alex, one of the things that we are investing in addition to the kilns -- to the 2 kilns that we are investing right now is in energy efficiency projects. There are new technologies that are allowing us to consume less gas. So that's why we feel confident that our energy consumption will be better in the future that will help us compensate or offset the energy price increases. At the moment, we have seen marginal price increases in gas in North America. The problem is -- the biggest problem is in Europe at the moment. North America is not a big problem, but I don't know Saul, if you can add something about this.

[SaúlCastañeda de Hoyos, executive]

Yes. I will probably add Jorge that we have a policy, a hedge policy, and we have been hedging 50% of our needs of energy gas need. And those -- that policy gave us a pretty stable margin, as you can see in the results. So we had this hedge for 2021 and also for the first half of 2022.

[Operator]

With no further questions in queue, I will hand the call over to Mr. Saul Castaneda for final remarks.

[SaúlCastañeda de Hoyos, executive]

Thank you, Manuel, and thank you, everyone, once again for your interest in GIS. Please don't hesitate to contact us if you have further questions and we hope you stay health and safe. Have a nice day.

[Jorge Garza, executive]

Thank you.

[SaúlCastañeda de Hoyos, executive]

Thank you.