Equatorial Energia SA

BOVESPA:EQTL3

Earnings Call Transcript 2018-Q4

[Operator]

Good morning, ladies and gentlemen, and welcome to the audio conference call of Equatorial Energia. Thank you for standing by. [Operator Instructions] As a reminder, this conference is being recorded.

I would now like to turn the conference over to Mr. Eduardo Haiama, CFO. Please go ahead, sir.

[Eduardo Haiama, executive]

Good morning, everyone. First of all, I'd like to thank you all for joining us in our fourth quarter conference call. As for our agenda for today, I'll start the conference call describing the highlights of this quarter. Then I'll comment on our operating financial results, give an update on the development of the transmission lines projects. And finally, we will open the Q&A session.

As for the highlights for the quarter on Slide 3. 2018 has been a very good year in terms of M&A and fundraising. We have been able to secure long-term funding for all of our lines except for the transmission line except for SPE's foreign stakes.

In distribution, we were able to sign long-term contracts to finance the CapEx for 2018 through 2020 with BNDES up to BRL 2.6 billion.

In March, we have concluded the closing of the acquisition of CEAL, which will be called Equatorial Energia Alagoas from now on, and injected almost BRL 550 million in equity to the company.

As for our volumes, the adjustment of the billing from loss combat initiatives except these and are a more interactive threat regarding losses and collection in CEMAR and CELPA that affect the quarter, volumes dropped by 5.9% on a consolidated basis.

In this quarter, Equatorial's consolidated EBITDA reached BRL 655 million, and this figure was impacted by the first quarter consolidation of CEPISA, which posted negative results and the adoption of IFRS 15 for the transmission assets that boosted EBITDA by almost BRL 200 million in transmission line -- in transmission segment. I'll further disclose this impact.

Moving on Slide 5, CEMAR energy market. Energy sales decreased by 3.9% at CEMAR across all segments. This drop is mainly due to the change in approach regarding loss combat and collection, and the still weak economy in the region that led to reduction in industry demand, affected by the shutdown of a relevant plant and also by the weather with a much higher rainfall and lower temperatures in the period.

As for CELPA on Slide 6. CELPA's billed volumes fell by 4.5% in the quarter, mainly explained by the figure I mentioned regarding the change in loss combat and collection, more interactive actions and also by the unfavorable weather conditions that decreased demand.

On Slide 7, look at CEPISA's energy market. CEPISA's billed volumes fell by 12%, heavily impacted by the adjustment made in the billing process derived from loss combat in the company that amounted to almost 120 gigawatt hour in the quarter. Another fact that impacted volumes was the weather in the fourth quarter, where the rainfall was 108% higher than the fourth quarter of '17, and the average temperature was 2% lower -- 2% degrees lower.

Moving on to Slide 8, CEMAR's total losses in the quarter, 17.2%. And these losses were already impacted by the change in approach that I mentioned regarding the loss-combat program with a focus on collection. Again in this quarter, both quality indicators that impacted CEMAR continue to be reasonably below regulatory targets.

Moving on to Slide 9. CELPA's losses in the quarter, 28.3%, also an increase of 0.8 percentage points in the quarter. CELPA was also impacted by the same stride that I mentioned before CEMAR. It's important to remember that according to ANEEL, CELPA is the most complex concession area in Brazil while CEMAR is considered to be the fourth most complex area in the same criteria. Quality indicators continue to be below regulatory targets both for DEC and FEC. And in these recent quarters, the productivity of the maintenance and standby teams in the field are responsible for this improvement.

Moving on to Slide 10. This is the first quarter that we report CEPISA's figures as we had to conclude the acquisition in October of last year. Given the adjustment, the billing process for loss-combat initiative in the company, total losses increased to 28% in the quarter, while the regulatory target dropped to 20%, following the end of flexibilization that was approved by ANEEL and one which beats for the company.

Quality indicators, they're also adjusted after our arrive at CEPISA, posting a slightly negative increase in the quarter for DEC and decrease in FEC. Consider a management model investment to be made in the concession, we believe we'll beat the regulatory targets for this indicator in the near future.

Moving on Slide 12. We show the consolidated EBITDA for Equatorial. In fourth quarter, we posted BRL 655 million of adjusted EBITDA, and this figure is already considered the consolidated EBITDA from CEMAR, CELPA and CEPISA. We consolidate now Intesa that we just bought the remaining 49% stake in the Equatorial service zone.

This is the first time we are consolidating CEPISA and after the first time we adopted IFRS 15 for the transmission assets, we believe that the easiest switch compare Equatorial's results to those of the previous quarter would be to exclude these new assets. If we were to consider only CEMAR, CELPA's and the whole year results, Equatorial would have posted BRL 566 million in the quarter or an 8.8% increase compared to fourth quarter '17.

Our goals should probably be -- start to be consolidating on Equatorial in the second quarter '19.

Moving on Slide 13, we present Equatorial's regulatory EBITDA. From this point of view, we excluded BRL 196 million impact coming from the first implementation of IFRS 15 in the transmission assets, and also another BRL 40 million of financial update for the DisCos. Thus, we reached 500 -- BRL 445 million in consolidated EBITDA regulatory 1 for the group compared to BRL 489 million in the same quarter of last year. The main negative contributor in this case was the first consolidation of CEPISA's numbers.

Moving on to slide 14. We show the same regulatory review for Equatorial's net income. Excluding IFRS impact in the transmission segment and the impact of CEPISA's opening balance in the consolidated figure, Equatorial's net income would have amounted to BRL 155 million or 46% drop year-on-year. And this drop is basically explained by 2 things: First, the incorporation of CEPISA's results in this quarter, and also by the higher negative financial expense at the holding level as we continue to invest in transmission.

Moving on to Slide 15. We present amortization schedule leverage for the company. Equatorial's leverage considering the full consolidation of its assets reached 2.8x in this quarter, following the consolidation of CEPISA, which contributed with BRL 2.3 billion of net debt, and it's still a negative EBITDA.

If you were to unconsolidate CEPISA's figures within Equatorial, we would have reached 1.8x leverage in the quarter, and that was bridge table compared to third quarter of last year.

We ended the quarter with a cash position of BRL 4.7 billion, which is more than enough to cover the next 2 years of debt maturity in the group, not to mention all the fundraising that we were able to secure and that should allow us to invest without compromise of our cash position. We believe with this cash position and also debt profile, we have a very comfortable debt structure to accommodate CEPISA's and sales cash needs for the foreseeable future as well as its transmission CapEx.

On Slide 16, we present the consolidated debt position. If you were to exclude the impact of CEPISA acquisition for the group, in this sense, we exclude the end of the year net debt of BRL 1.5 billion, the capital increase we made of BRL 720 million, and also the BRL 95 million we paid as grant bonus to the federal government. With that, net debt would have reached BRL 4.3 billion corresponding to our ratio of 1.8x net debt to EBITDA.

Moving on to Slide 17. We show the main CapEx made by Equatorial in the recent quarters. And as can be seen, the investment in transmission segment has started to pick up and have reached BRL 338 million in the fourth quarter, following the start of the construction of almost all the lines.

For CELPA and CEMAR, it's worth reminding that we were able to secure BRL 2.6 billion in funding from BNDES to fund the CapEx of '18, '19 and '20.

Moving on to Slide 19. As you can see, we have obtained the construction license for all the projects except for a small part of SPE 7. Given that, we have already started construction of several -- or of 8 of the lines in our portfolio.

Also in transmission, we bought the remaining 49% stake at Intesa and we start consolidate this figure starting the fourth quarter.

Moving on Slide 21 -- on Slide 20, sorry, we start to have bigger CapEx disbursement following the start of the construction of the lines. It is important to show our fundraising efforts that we made last year and early this year. So for SPEs 1, 2, 3 and 5, we have signed long-term funding with BNB, Banco do Nordeste, amounting to almost BRL 1.6 billion. For the SPE 1, 2 and 3, we also issued BRL 190 million in infrastructure debentures that we closed all the efforts for these projects. SPE 7 and 8, we have secured fund with SUDAM through Banco do Brasil of almost BRL 800 million.

And also, we are about to sign long-term funds with BNDES for the remaining 2 SPEs 4 and 6. We believe these efforts -- it is very important for us to secure liquidity and also secure the returns for these transmission -- both projects in the long run.

On Slide 21 and 22, we basically discuss the development status of these projects. The most advanced line is SPE 8, the one we won in April '17 auction. We have already reached 50% of the construction. The synchronous condenser that's part of the line that is realized with an BRL 18 million in annual revenues is in the final passing and should start running soon.

On Slide 22, we show pictures of how the construction is going for each SPE, where we can see already that some of the field towers are being assembled or there are many others that are being assembled and also how advanced the civil work in substations.

With that, we believe we can conclude this presentation and start the Q&A session. Thank you.

[Operator]

[Operator Instructions] Our first question comes from [ Fernando Zard ], UBS.

[Marcelo Sá, analyst]

Sorry, this is Marcelo Sá speaking. Another question on the PIS/COFINS tax. I want to understand a little bit better what made you guys feel confident that you can book a gain on this, considering that taxes are considered to be partially expensed. And as a result, you'd have to report to the consumers, so I want you to tell us a little bit more your legal piece on this. And if you guys had a chance to discuss that with the regulator and what the regulator's view.

[Eduardo Haiama, executive]

Thank you. Well, first of all, it's important to just understand what we have accrued and what we have won. But this is a case we have been disputing for many years in the case of CEMAR 2006, and we recently won. This is a final decision, so there's no discussion about that. When you have the situation, when you have a final decision from the justice -- well, it's already enough that you have, right? You might -- exactly when you're going to be able to use, there are some, let's say, the hypocrisy that you need to go through, not at first, why don't you start using, but it already belongs to us and who won in this case, CEMAR and CEPISA last year, end of last year. We have the 2 companies discussing these issues that is CELPA and CEAL that is still like there are discussions going on. And for those companies, we haven't accrued anything, right, because until you really win a final decision from an accounting perspective or want to ask auditors and even the lawyers, it's something like you cannot approve, right, as opposed to, for example, in the liability that you start to write accruing liability contingent, whether or not you believe it's probable instead of possible or remote.

As for what we accrued as our asset and what we accrued as our liability, it's more like a discussion exactly of how far behind we need to reimburse, right, for the cause that we won, right? In this case, we have used 10 years and basically because there is a legal injection in Brazil that is disputing exactly how many years customers in general can complain and/or [ confiscate complaint ] against customers regarding mistake they might have in the deals or the fields. And should we have clarity on this lawsuit, we prefer to use the most conservative one that is used in the civil procedures for this kind of case. And that's why we adopted the 10 years. As for the other 2 companies that we haven't yet won, we're only going to accrue anything by the time the justice system gives a final decision. It's hard to say if and when we're going to have this final decision because you can always continue to have this kind of dispute despite the fact that the Supreme Court has already ruled that it is unconstitutional discharge and charge with PIS/COFINS, ICMS. But until we have a final decision, we are not going to do anything. I don't know if it helps.

[Marcelo Sá, analyst]

Yes. Yes, it did. Let me confirm 2 things. So did you guys have a chance to talk about the regulators even now that you've only -- your understanding based on the argument that you just provided? Or have you had a chance to use [ both now ]?

[Eduardo Haiama, executive]

No, we haven't discussed our case. But like I said, it's -- the lawsuit is [ off the shelf ]. We won the final decision. So with that, you have [ a couple ] right, they have an asset. As opposed to -- regarding liability specifically, if you go with the law, it's 10 years, there was -- and comes up what we call civil procedure, I don't know how to speak -- the real way to speak that in English. If you look at the consumers, right, it would be 5. And if you look at the regulatory -- the regulation by now, it would have been 3 years. Given that there is not a lawsuit disputing how long you're able to charge consumers the vice versa for mistakes in the past, try to overcharge or not, we prefer to adopt the most conservative one as 10 years.

[Marcelo Sá, analyst]

Okay. Got it. And another question would be on CELPA and CEAL. I didn't know that you guys had the same lawsuits, I mean, ongoing [ profitability ] company, but I was wondering when CEAL and CELPA filed this lawsuit so we can start counting what would be the potential gain since you have favorable timing. Was it started in May you have in the year?

[Eduardo Haiama, executive]

Well, CEPISA and CEAL, they file the same time, right? But it was the same case. There was like -- each company issue to file lawsuits independently but it was in the same time, right? So CEPISA and CEAL is running at the same time.

[Marcelo Sá, analyst]

But we would had -- for example, if you have like a 10-year period, you would have a benefit of 1 year, for example, for CEAL, like you had in CEPISA?

[Eduardo Haiama, executive]

Yes. There'll be more or less similar, right? And CEAL and CEPISA, they have kind of a over the same market size, right. In CELPA, we filed, if I'm not wrong, it wasn't that much long ago. I think it was -- I'm not sure, maybe it was 2016 or '17. I need to check, and then you can retract it 5 years, right?

[Marcelo Sá, analyst]

Yes. So in theory, the assumption is that you'd have to return to the consumer also [ about ] 10 years probably, you wouldn't recognize a need for CELPA in this case?

[Eduardo Haiama, executive]

Yes, you're right.

[Marcelo Sá, analyst]

Got it. So another question would be in the early release, you guys disclosed the adjusted EBITDA for CELPA. I don't know if I understood correctly, but there is an adjustment of BRL 170 million maybe related to the business use, but I understand it didn't have the impact for CELPA, so business is the same with adjustment.

[Eduardo Haiama, executive]

That's another thing. It's more like -- what we saw is like that what -- how the regulator calculates the benchmark for cost. They get the cost -- the actual cost from particular companies, right, to round the benchmark and that's what they put in the tariffs. And what we saw is like when they do that, they use the PMSO, right? The operating cost net of PIS/COFINS tax. So within the tariffs, what consumers pay in the end, these are like the tariff that they benefit from the credit coming from the PIS/COFINS that some of this cost generates, right? And what we are doing is like we work kind of a double counting against us, right? Because when we calculate the actual PIS/COFINS that we pass to consumers and it's a pass-through, right, cost, we were deducting again the credit that we have, right, in our OpEx, in our PMSO and gave it to consumers. So we are giving not only the tariff that drive [ digital guided this credit ], right, this cost of PIS/COFINS, but also we are like giving again, right, as a credit. So we are charging a lower PIS/COFINS tax in the end. But I don't know if it's clear, so the [ first, second half ].

[Marcelo Sá, analyst]

It's a different discussion, like just because you...

[Eduardo Haiama, executive]

It's a different topic, yes.

[Operator]

Our next question comes from Andre Sampaio, Santander.

[Andre Sampaio, analyst]

I would like to ask a question about the new losses and collection methodology that you guys are using? And if you guys could discuss what really changed operationally, it would be nice.

[Eduardo Haiama, executive]

Thank you, Andre. The main change is like when you saw the historical numbers of CEMAR and CELPA, right, CEMAR, we started to combat loss 2008, '09. And your high success not only reducing loss but also improving collection in this period. When you saw what happened at CELPA when we started combat loss by 2013, it was the same in the beginning in 2016, let's say, right, when we had this financial -- the Brazilian depression impacting volume and everything else in Brazil. But what we saw recently, if we continue to act like combating losses without paying attention to what would be impact on collection and that was a problem in the past, right, we were able to not only reduce a lot of losses, but also sometimes even increase in collection, right? If we continue to treat these 2 actions separately, we would basically kind of eliminating losses, but you have a problem in collection. So in the end, from a cash flow perspective towards negative.

So what are we -- we have been saying this for quite a while to the market, like we need to change this behavior to the markets, in general, restore to normality in those regions, meaning you have -- you're going to having growth again and healthy consumers, right, in terms of financial perspective. But until then, we need to be more careful what we are doing in terms of the loss-combat program. Because in the end, we would be hurting ourselves. So we have been studying this a lot, right, throughout 2018 and start to implement this, say like I end up third quarter and fourth quarter in a way that whenever we combat a loss, we do it always with a [ 9 ] collection. We want to reduce losses and we're going to continue to do that. But if we don't do -- won't do it at all costs and that was the case, right? Before then, given that we were so successful in reducing loss in collection, that we didn't have to pay attention what would be the impact because the impact was almost 0. But the crisis that we have, say, "Hey. We need to be more intelligent not like overstretching, right, consumers and even our cash position here, right, until we have more normality in the growth that we have." So that's the main thing.

And what's the main impact in the loss combat at the end of the day? It's to reduce the amount of [ energy ] that we charged from the past, right, depend on the client, depend on the segments. And also, for some clients that we know that is useless, we try to -- always try to comment and if there is no response at all, I mean, it's not like I keep like that, try to believe they're going to be able [ too technical ]. They're not going to be -- some of these guys they are like unconnected or disconnected and not really providing cash flow, it was negative. I don't know if that explains your question.

[Andre Sampaio, analyst]

Yes, I think that's it. I will -- also would like to ask another question on transmission segment. If you guys explain this how did you implement the new rules from IFRS. Actually, I would like to understand better the new margin for the construction part of the sector.

[Eduardo Haiama, executive]

Okay. Well, basically, today, what was the original rule in IFRS? You basically estimate your project IRR for the lines that you have, right? And based on that, you basically like -- whenever you invest some money, let's say that you have an investment of BRL 1,000, right? And I estimated that the project IRR was, let's say, 10%, just to simplify sales. So whenever I invested, let's say, BRL 100, the day after, I will start to accrue an interest of 10%, right? And this interest was exactly the revenues that I accrued in every quarter until I ended the construction. So when I ended the construction, I'm going to start to receive the real cash flow, right, coming from the concession. So what was -- and how concession would behave? We would continue to accrue the 10% interest over the updated financial asset that I have. But then I would subtract as I receive the cash flow the revenues, right, from the concession. And that's the way until we have a kind of a 0 value at the end of the concession. That's the way it was.

How the accounting firm is deciding the end, how the accounting firm, IFRS, decided to change the way we accrue this. They said no, you cannot like accrue using your implied IRR. You need to do an NPV, right, of your cash flows not only revenues minus OpEx, but also the CapEx. Based on this NPV, that's the margin that you're going to add whenever you invest, and right now we have in the future when you operate a margin for the OEM. So to simplify things, let's imagine that I forecast that I wouldn't have or would have 0 margin by operating the line for the next 30 years. I accept this business model. I don't have margins on an OEM. The only margin I'm going to have is over the CapEx, right? So the way I have to do this is today is like I calculate NPV, I'd be driving discount rate that is going to be different from the IRR, reach this NPV, this would be more than we have whenever I invest during the construction. So let's get another the same example. The BRL 1,000 that I have of CapEx and before it was IRR of 10% and now it's counted 5%. So let's say by kind of it's 5%, the NPV is another BRL 1,000, right? So whenever you invest BRL 100, I also recognize another BRL 100 as margin for construction. It's kind of complicated, but I hope you understand.

[Andre Sampaio, analyst]

I think. So I think going forward, we should continue to see margins on this, right?

[Eduardo Haiama, executive]

Yes. And the best thing is like it's going to be all over for all the companies, right, because each company is going to have a different calculation for the discount rate. But that's how it's going to work, right? So now whenever you see our -- we investing in the greenfield project, we have to recognize the construction margin. And whenever we operate -- I give an example of 0 margin of OEM, but I may not, you're also going to have some margin OEM going forward. So that's the way IFRS numbers will be.

[Operator]

[Operator Instructions]

This concludes today's question-and-answer session. I would like to invite Mr. Haiama to proceed with his closing statements. Please go ahead, sir.

[Eduardo Haiama, executive]

To sum up, we'd like to reinforce our commitment in delivering differentiated appreciation to our shareholders for exceptional financial and operating results. We'd also like to highlight our adherence to the highest level of corporate governance and transparency and reassure that both me and our Investor Relations team are available should you have any further questions.

Thank you all again for taking part of our fourth quarter conference call. Have a good day.

[Operator]

That does conclude Equatorial's audio conference call for today. Thank you very much for your participation. Have a good day, and thank you for using Chorus Call.