JBS SA

BOVESPA:JBSS3

Earnings Call Transcript 2018-Q3

[Operator]

Good morning, everyone, and thank you -- and welcome to JBS conference call. During this call, we will present and analyze the results for the third quarter of 2018. As requested by JBS, this event is being recorded. The recording will be available this afternoon and can be accessed by following the instructions posted on company's website at www.jbs.com.br/ir.

Taking part on this call, we have Mr. Gilberto Tomazoni, COO of JBS Global; Mr. André Nogueira, President of JBS USA; Mr. Wesley Batista, Senior, President of JBS Brazil; and Mr. Jerry O’Callaghan, Investor Relations Officer of JBS S.A.

Now I'll turn the conference over to Mr. Jerry O'Callaghan. Please go ahead, sir.

[Jeremiah O’Callaghan, executive]

Thank you. Good morning. Welcome to our conference call. Thank you all for being with us. Just to mention before I hand you over to Mr. Tomazoni here, we posted a presentation on our website about half an hour ago, which we will use as a base during this presentation, during our prepared comments. So please bear that in mind. And Page 2 of that presentation is the disclaimer. So we recommend that you read that disclaimer as well in order to get the contents of it.

And so before we get into the actual presentation itself, I want to hand you over to Mr. Tomazoni, who will make some initial comments here. Mr. Tomazoni?

[Gilberto Tomazoni, executive]

Well, thank you, Jerry. Good morning. Welcome to our third quarter earnings conference call. We are very pleased to report another quarter of solid performance.

In the last 4 quarters, we have consistently delivered everything we promised. Nothing happened by chance. We are harvesting the benefit of our focus on executing a simple strategy, which is to produce high-quality products, actively manage the mix of those products and brands and to do so with great discipline with regards to cost and cash generation.

Most important, our team. We have an extraordinary team with deep knowledge of the industry and each of the business. Our senior management act with ownership to perform with sense of urgency and absolute determination to make things happen. It has also been evident that our performance in the recent quarter showed the power of our business model diversified by region and by type of protein.

Before getting in the details of the quarter results, I want to emphasize our priorities. In previous quarters, I have done this at the end of the call, but I thought it appropriate to bring it to the beginning because our priorities underpins what we are going to present today.

Our priorities are: first, continued focus on operational excellence. We strive to be the best operator in the market and many of our business have consistently outperformed their direct competitors. Second, organic growth, which means optimize our assets to the maximum. Third, continuous investment in quality and innovation. In this regard, I would like to point out that in October, at SIAL fair in Paris, Seara won the innovation award of the 100% natural chicken category. Number four, deleverage. Here, I want to make an important point. Since the second quarter of 2017, we have repaid $4.3 billion on debt, which translate into annualized reduction in financial costs of around $300 million. In summary, we delivered what we have promised. And finally, our robust global compliance program, which has received compliments and acknowledgment in Brazil and abroad.

Well, let's turn to the numbers. Net revenue in the quarter was approximately BRL 50 billion, a 20% increase over the second quarter. EBITDA was a record BRL 4.4 billion. Operating cash generation was BRL 4.3 billion, and free cash generated in the quarter was BRL 2.3 billion.

Our short-term debt decreased from 27% in the third quarter in 2017 to 5% in the quarter, a significant change in profile.

To reinforce what I have said, since 2017, second quarter 2017 or in the last 12 months, we have repaid $3.3 billion. In additional, in October, we paid another $1 billion.

To conclude my initial remarks, I want to emphasize 2 points. First, value added products are growing in importance in our portfolio. One of the drivers of growth has been acquisitions. Seara in Brazil, Moy Park in Europe, Primo in Australia and Plumrose and GNP in U.S.

However, innovation is also increasingly important to us. The product our team has successfully created and brought to the market is truly impressive.

The second point has to do with growth. The growth of protein consumption in Asia is quite remarkable. As a result of our diversified platform, we are extremely very well positioned to meet the demand. In addition, our focus on superior product quality and our obsession with excellent customer service enable us to find similar memorandums of intent with local companies during the SIAL China import, export fair. The total value of this memoranda is $3.4 billion.

Now I will hand over to Jerry, who will take you through the financial details of the quarter. Jerry, please.

[Jeremiah O’Callaghan, executive]

Thank you, Tomazoni. Thank you very much. Again just remembering, I will make reference to page numbers in the presentation we have on our website as I go through our numbers, and I will start on Page 3. Some of these numbers are repeated, but I will try to be as short as I can.

Net revenue, as Tomazoni mentioned, approached BRL 50 billion, BRL 49.4 billion. That was up over 20% in relation to the same quarter in 2017. Consolidated EBITDA increased by 2.6% to BRL 4.4 billion. That is the highest EBITDA that JBS has had in a quarter in the history of the company.

Adjusted net income was BRL 2.1 billion, and we reported a net loss with the adjustments of BRL 133.5 million. Importantly, cash flow from operational activities was at BRL 4.3 billion, and free cash flow, as Tomazoni mentioned, was at BRL 2.3 billion.

The leverage in U.S. dollars reduced to under 3x in the quarter compared to 3.45x in the corresponding quarter in 2017. We had $710 million of reduction in net debt in the third quarter in 2018. Short-term debt as a percentage of total net debt reduced to 5%. That was 27% a year ago.

So on Page 4, we see again net revenue, how it increased in relation to the previous year. Gross profits were up also 11.3% although gross profit margin was down from 16.7% down to 15.4% in the corresponding quarters.

EBITDA, on Page 5 in our presentation, was at BRL 4.43 billion, up from BRL 4.32 billion in the corresponding quarter last year. EBITDA margin was down from 10.5% to 9%. And again, adjusted net income came in at BRL 2.13 billion in the quarter. And when considering the nonrecurring events of the quarter, we reported a net loss of BRL 133.5 million.

Operating cash flow increased in relation to the corresponding quarter in 2017 from BRL 3.5 billion to BRL 4.3 billion. And our free cash flow in the quarter was down from the BRL 3.2 billion in the third quarter last year to BRL 2.3 billion in the third quarter of this year.

In terms of leverage, we have on Page 7 of our presentation a picture that goes back to the second quarter of 2017 to demonstrate how leverage has evolved since then, and particularly leverage in dollar. And I do recommend that we look at leverage in dollar because of the amount of debt, more than 95% of the total debt of the company is in U.S. dollars, and also a major portion of operating income and EBITDA is also in U.S. dollars.

We had net debt in U.S. dollars from the second quarter of 2017, reduced from $15.2 billion to $12.4 billion at the end of the third quarter of 2018, and we see leverage declining from above 4x in dollars down to 2.99x at the end of the quarter.

Also, in reals, we've seen a relevant decline in leverage. But the evolution of FX of the real against the U.S. dollar in the last quarter doesn't reflect the reality of the leverage reduction in reais.

Tomazoni mentioned gross debt reduction over the last 5 quarters as well, and we see this on Page 8 in our presentation. Gross debt declined from $18.7 billion down to $15.4 billion, a $3.3 billion reduction in gross debt up to the end of September in 2018. And we see that cash and availability increased over that period from $4.2 billion at the end of the second quarter in '17 up to $5 billion availability, including those committed lines that we have in the U.S.

After the end of the third quarter, we already announced to the market, and I will quickly summarize the liability activities that we had in the fourth quarter. We made a tender offer for the redemption of $1 billion of JBS S.A. bonds, which mature in October 2020. And we also made a tender offer for the redemption of approximately $500 million of the senior notes of JBS USA, which mature in 2021.

Parallel, we issued a new bond at JBS S.A. for $500 million. And together with the proceeds of that new bond, which matures in January 2026, with cash in hand, we were able to repurchase the totality of the '20 bonds and also pay the tender offer with -- in relation to the '21 JBS S.A. bonds. So gross debt effectively after the quarter reduced by a further $1 billion. So when we add that onto the $3.3 billion of gross debt reduction over the last 5 quarters, that's a total of $4.3 billion that we've reduced gross debt, which as Tomazoni mentioned in his initial remarks, represents a reduction in financial expenses in the region of $300 million per annum.

Also after the end of the quarter, JBS USA renewed its revolving credit facility in the U.S., a total of $900 million, which is guaranteed for the next 5 years, in conditions and in price similar to the previous agreement. And additionally, to the revolving credit facility in the U.S., JBS Australia took on a new revolving credit line in the amount of AUD 200 million, which is guaranteed for the next couple of years as well.

Onto Page 9 in our presentation and a little bit more about our debt situation. Firstly, our liquidity or availability of available cash, there's $12.1 billion. And when we add the BRL 8 billion of committed facilities in the U.S., that gives us a total liquidity of BRL 20 billion at the end of the quarter.

As I mentioned, 95% of our net debt is in the long term, 5% in the short term. The breakdown today is 77% in capital markets and 23% with commercial banks. By entity, 62% practically of our debt is at JBS USA, 32% at JBS S.A. and 6% at Seara. And by currency, also I mentioned earlier, 96% practically of our debt is in U.S. dollars and 4% in reais, with the cost under 6% with our U.S. dollar-denominated debt and under 9% with the real-denominated debt.

Now on Page 10 and over the next few pages, some more color with regard to each one of our business units. There are 5 business units starting with Seara, which is our pork, poultry and prepared foods in Brazil. Net revenue increased by 8.8% in relation to the corresponding quarter last year from BRL 4.6 billion to practically BRL 5 billion in the period. EBITDA went from BRL 508 million to BRL 512 million with EBITDA margin decreasing from 11.1% to 10.3%.

As I mentioned, net revenue was up 8.8% in the quarter, mainly as a result of higher sales prices. In the domestic market, net revenue grew by 9.8% compared to the third quarter in '17, fresh poultry and prepared foods being the highlights where average sales prices increased by 11.9% and 8.4%, respectively.

Net revenue from exports increased by 7.6% compared with the quarter of last year, with average export prices up 25.1% in fresh poultry and 21.6% in prepared foods. This quarter's results were significantly impacted by higher corn and soybean costs in Brazil up 44% when compared with the same period last year.

Seara continues to focus on profitability, prioritizing higher value-added products and premium brands to the detriment of lower priced brands. And Seara's also developing a brand strategy in the Middle East.

Recently, Seara has been awarded some relevant accolades. FI Innovation Awards, which is a Latin America innovation platform, awarded Seara the first prize and the third prize in relation -- in 2 of its categories, the Seara Rotisserie product as the most innovative product in 2018 and the DaGranja, natural product and third place in the same category. Also last month in Paris at SIAL food fair in Paris, Seara was awarded the SIAL Innovation Award for the same Seara 100% natural product line in the poultry category in Brazil.

Moving on to Page 12 in our presentation, what we call JBS Brazil, which includes our Beef business in Brazil, our leather hides business in Brazil and also related businesses. Net revenue was up quite substantially from BRL 5.1 billion last year to over BRL 7 billion this year, up 37.2%. EBITDA also was up almost 10x from BRL 72 million last year to BRL 712 million this year, with an EBITDA margin increasing from 1.4% to 10.1%.

In the domestic market, net revenue grew by 23.2%, thanks to an increase of 18% in volume and 4.4% in sales prices. Net revenue for the export market grew by 54.1% as a result of a 30% higher volumes and an 18.1% higher sales prices. The devaluation of the Brazilian real also positively impacted revenue growth in the export market. EBITDA margin of 10.1% reflects adequate capacity utilization as well as a focus on sales through more profitable channels and brands coupled with more favorable market conditions.

JBS USA Beef, Page 13 in our presentation, our largest business unit. And here, we are reporting in U.S. dollars and not in reals anymore. Revenue came in at $5.4 billion in the period, down marginally from $5.5 billion in the same period last year. EBITDA was up from $405 million to $447 million with EBITDA margin increasing from 7.3% last year to 8.2% this year.

The strong economic fundamentals in the domestic markets boosted beef consumption in North America, in the U.S. and in Canada, and more diversified product mix and strategic partnerships with local and foreign key customers enhanced beef results in the United States and in Canada. Export market share has continued to grow with increased profitability as a result of an improved mix of exports -- of products in the export market.

JBS Australia posted stronger results in comparison to the corresponding quarter last year. Geographical proximity to Asia represents a key competitive advantage in supplying increasing demand from the Asian region. With an innovative, high-quality product offering, good customer service level and focus on operational efficiencies, Primo Smallgoods in Australia was able to increase sales and deliver relevant profitability.

JBS USA Pork, Page 14 in our presentation. Revenue declined by 17.5% from $1.69 billion, down to $1.39 billion, primarily as a result of a decrease in average sale prices. EBITDA was down from USD 256 million to USD 138 million, a decline of almost 46%. EBITDA margin was down from 15.1% down to 9.9%. There was an increase in pork supply in the domestic market in the U.S. Raw material costs also declined during the quarter, minimizing the impact of the decrease in prices on margins.

In the third quarter 2018, JBS USA Pork increased production capacity and sales of higher value-added products strengthening its mix while meeting demand from important customers. Plumrose, which is part of the JBS USA Pork business unit, continues to successfully implement its strategy of increasing production and launching innovative products. For the period, the company again delivered -- Plumrose again delivered solid operating results, in line with previous quarters.

Special attention has been given to the outbreaks of African Swine Fever, which are being recently reported, particularly in China and also in Europe, due to the potential impact of these outbreaks in the global supply and demand of pork products.

Pilgrim’s Pride. Pilgrim has already reported its earnings to the market a couple of weeks ago. Revenue was down 3.4% from $2.8 billion down to $2.7 billion basically. EBITDA was down from $463.6 million in the third quarter of last year down to $156 million in the third quarter of this year. EBITDA margin declining from 16.6% to 5.8%.

There were lower domestic sales prices, which were partially offset by higher volumes. In Mexico, revenue was down 10% as a result of a reduction in sales prices and a negative impact from FX variation of the Mexican peso into U.S. dollars. In Europe, net revenue grew by 2.4%, thanks to our 4.6% higher sales prices, partially offset by lower volumes. Integration of Moy Park into PPC is tracking better than expectations and is ahead of the $50 million synergy target which was set for the next 2 years.

A little bit about the rating agencies having spoken about the business units, Page 16 in our presentation. We've had relevant evolution in our ratings at JBS S.A. in 2017. So we demonstrate this on Page 16. We've had our rating at Moody's increased from a B3 rating at the end of the year to a Ba3 rating recently and going into the fourth quarter of 2018. Similar trend from Standard & Poor's where our rating at the beginning of the year was a B-flat rating. Today, the company's rated by Standard & Poor's as a BB- with a positive outlook at Standard & Poor's.

Moving on, just Tomazoni mentioned this also in his prepared remarks about China. There was a China international import exposition earlier this month, early November in China, and JBS had a relevant presence at the event. And we signed a number of memorandums of understanding with a variety of customers to supply a bigger portion of meat products not only from Brazil but also from other origins where JBS has production platforms.

The most relevant MOU was with Alibaba to supply them $1.5 billion worth of product over the next 3 years. Also we signed agreements with Unifood, with Grand Farm, with CP and with others and a total amount of $3.4 billion of exports to China in the coming years.

And just before we open up for Q&A, and to do a little bit with the global demand that we see outside of the platforms where we have production on Page 18 in our presentation. We wanted to highlight our unique global platform where we have activities in North America, in South America, in Europe and in Asia and where we basically export to all of the global markets out of these production platforms with a relevant presence in Asia, in Africa and in the Middle East, has relevant sales to Europe around South America as well. So just to demonstrate our unique global production and export platform on Page 18.

With that, that concludes our presentation. We would like now to open up the line for questions and answers. Operator, can you please do that?

[Operator]

[Operator Instructions] Our first question comes from Bryan Hunt, Wells Fargo.

[Bryan Hunt, analyst]

I was wondering if you could talk about the new supply agreement with Alibaba, whether you all need to invest any capital to meet those demands? And how does that agreement influence exports out of your other entities in the U.S. and Australia perhaps?

[Jeremiah O’Callaghan, executive]

Okay, Bryan. Well, the agreement -- it's a memorandum of understanding. Let's be clear on that. Obviously, we need to work on making it operational. Basically, it's an agreement to supply Alibaba, what they call their Win Chain, which is their refrigerated distribution chain in China out of Brazil. So it's basically out of Brazil. It's beef, poultry and potentially pork in the future as well. It does not involve any initial investments or any incremental investments. The plan is that we dedicate a portion of our production capacity in Brazil to supply this channel, which is a channel, obviously, which has a lot of potential for growth because it's a channel to the end-user. So basically, no incremental investment and potential to supply that out of our existing facilities in Brazil.

[Bryan Hunt, analyst]

Okay. And sending that incremental volume to China over and above what you're sending today, does that influence how the company balances exports out of Australia and/or the United States to other markets?

[Jeremiah O’Callaghan, executive]

Yes. Well, Australia is a relevant exporter and also signed an agreement during that exposition that we mentioned to supply products also to its customer base in China. So basically, Australia is also enhancing its exports into that market. The U.S. right now doesn't have a lot of access directly into the Chinese market. So there isn't a lot of influence on U.S. exports, which are basically directed to other markets. Many of them in Asia and growing export volumes out of the U.S. as well, but not directly into China.

[Bryan Hunt, analyst]

What's the relevant size of the Australian agreement into China?

[Jeremiah O’Callaghan, executive]

That was published by the import company. If I am not mistaken, Bryan, it was about USD 150 million -- USD 145 million, USD 150 million by the import company.

[Bryan Hunt, analyst]

Okay. And shifting gears, how is the drought in New South Wales and Victoria that's been ongoing for over 12 months? Is that impacting your Australia southern division's availability of livestock? And if so, when do you see it curing itself and normalizing?

[Jeremiah O’Callaghan, executive]

André?

[Andre Nogueira, executive]

Bryan, just complete a little bit the previous questions. I think that the relevance of China -- Asia overall, Bryan, is the growth in demand and then growth in imports. If you combine China, Hong Kong 10 years ago then you'll reach imports 106,000 metric tonnes of beef, now they import 1.6 million metric tonnes of beef. So it's 10x, indicating the largest importer globally. But that's I think that we cannot lose the perspective how big have been the growth of demand, and as a consequence, the growth of import of protein overall in Asia. And there's no company that has the footprint, the access, the distribution that JBS has to supply the demand. So I think that we have a extremely strong position from Brazil, from Australia, from U.S., from Canada to support the growth of demand in that area. Talking about New South Wales. Now the little bit of improvement in the drought had big impact in the growth of that area, Bryan, is in grain price in Australia. That's an important area to produce grain. Grain price more than doubled this year compared to last year. They are not bigger producer of cattle. So cattle feed [indiscernible] using the amount of rain. So I think that we can say that Queensland overall, it's better than normal. So New South Wales not causing big disruption to beef. A little bit more relevant in land, but again, despite of New South Wales under tough conditions on land, that area probably it is decreasing. It's other areas in South Australia, in Victoria with very good condition. So on the other hand, probably they are growing the land production there and lands are in very good conditions in other areas. So the big impact is grain. Grain price in Australia right now is double the cost of grain price of Australia last year.

[Bryan Hunt, analyst]

And then my final question and I'll hand it off. I mean, the JBS S.A. stock has reacted favorably given the improvement in the balance sheet and improvement in the fundamentals over the last 12 months. Does this change the company's strategy of potentially going public in the U.S.? And if not, what are the hurdles that remain to listing on the U.S. exchange?

[Jeremiah O’Callaghan, executive]

Thank you, Bryan. Now the company's plans to be listed in the U.S. have not changed. We continue to pursue that listing actively as a priority. Basically, the company continues to operate normally and to look -- analyze the market so that this can be done as early as possible. The obstacles that exist are obstacles that the company is working on. So depending on market conditions, to do that listing as early as possible.

[Operator]

The next question comes from Benjamin Theurer, Barclays.

[Benjamin Theurer, analyst]

My first question on the U.S. market, beef and pork. So first on beef. I mean clearly that was another quarter of very strong profitability. We're seeing an environment that's really fairly strong on that side. Could you share a couple of what you've been seeing into Q4 and what your expectation is into next year? I mean what you're seeing in terms of availability and, obviously, what you think margins are most likely going to look like in coming quarters. Is that going to continue to be as high? Or should we expect some sort of a normalization? And then at the same time, pork, I mean clearly it was somewhat under pressure during the quarter. I mean we know there have been issues on exports with Mexico, and then there's China whatsoever, and then there is oversupply. But could you shed a little bit of light on that capacity that was supposed to come in and seems to be a little delayed? And how actually exports have been doing to Mexico, which is an important partner on pork considering that they're about to sign that USMCA deal. Those would be my initial questions, and then I have one follow-up.

[Jeremiah O’Callaghan, executive]

André? André? Did we lose André?

[Andre Nogueira, executive]

No, no. I'm here, Jerry. So about the U.S., you are right. The current supply's in very good shape. I think that what you should expect that we're going to have the normal seasonality quarter. So the second and third quarters always kind of firmer because of demand are always very strong quarter. Export demand continue to be very strong. So if you compare in the same quarter last year producing more beef and sell at higher price. In the supply side, we know that they're going to have more cattle available next year than we have this year, probably around 2% more. We have the visibility because of the cattle herd and the number of cows that the supplier being a very healthy situation '19, '20 and up to '21. That's -- we can have the visibility for the next 3 years and we know that we'll be in very good shape. So I don't think anything relevant to change in terms of margin for the foreseeable future. Consider that this export and then continue [indiscernible] talk about Asia, I don't see that changing. So that this -- I don't see the normal seasonality quarter over quarter. As for the year, I cannot see anything [indiscernible] that will change dramatically the level of margin that we have right now. But we can see now sizes of seller continue to improve. So [indiscernible] from the level that was it was in the past year, better than last year but should be a drag in our results when we combine [ a few apps ]. So what you can see here will improve [ our stronger side ]. [indiscernible] Despite of all the challenges that we see, we have more supply. We have more capacity left, we have some reduction in trade and some volatility during the quarter. Despite of all this, we believe a 9.9%, almost 10% margin EBITDA.

That show how strong we -- our operation on the pork side, how efficient we are and the diversification of our approach following the reductions that we have been doing in the value-added [indiscernible] side. So we're happy and it's aligning with what we anticipate in the previous quarter that we [indiscernible] on our own results. And the key to that is more exports. You ask we are going to release more pork and this additional production need to go to the export market. We have been very successful finding new markets and growing new markets. I point out that the growth this year compared to last year for Colombia is 50% growth; to Republic of Dominican -- Dominican Republic is almost 30% growth; Honduras, 20% growth; South Korea, 40% growth. So JBS is very competitive and continue to find new markets to export. Next is very important, and that's to implement the tariff in the U.S. this year, what was the impact of that on the price. The volume's still the same. Volume of last year did not increase, but did not reduce, but the price of the products that was export to Mexico had an impact. The tariff is changing next year, I think they may have the new agreement. We're expecting improvement in [indiscernible] and let me call your attention to that, and I think that's very relevant [indiscernible] with the African swine flu that's going on in China. China, they are responsible for 50% of the global production, their results are 50% of the global demand. So if you have a relevant disruption of production in China, that can completely change the supply in near the future for the global pork demand.

[Benjamin Theurer, analyst]

Okay. That would actually be my follow-up. So on the African swine fever, do you have somewhat a sense, I mean you mentioned 50% consumption, 50% of production. But do you have like, I mean what we've been seeing, it's been spreading out all over the place and obviously could have implications on, call it the diet from the Chinese switching maybe from pork to chicken or from pork into beef, depending on their regions and the taste and what's available. How do you think that is going? What's your take how this is going to end up? And could you remind us what other restrictions you have from, for example, the U.S. in terms of shipments into China and what would you have to ship potentially out of Brazil? And if you would have the capacity to actually to serve that market if that would be needed.

[Andre Nogueira, executive]

I think that's too early for us to speculate about the impact. What we know is every other country that have the swine fever, there was a relevant impact in the production. But I think that's a lot of -- 1 to 2 quarters which should let us to start to have a better visibility about what's impacting the production, and if that's impacting production and the communications are then impacting [indiscernible]. It's too early. The way [indiscernible] to assume that would have an impact, if we assume that they're going to have an impact in production in China, and China will report more. Remember that China, the last 10 years, continue to grow their import of pork. They have been growing production, but they lag in the growth of consumption. So now they import 3 million metric tons of pork every year. It's a huge volume. So if there is an interruption in production that China will grow in pork faster pace, I think that [indiscernible] comes first in Brazil, Canada and Europe. And as U.S. competes with Canada and Europe in several different markets, that would be the impact for U.S. We open a strong demand in Korea, in Japan, in Mexico, with Canada and Europe, with more production in China, but I think that's too early to speculate about the year impact that it will be. That can be very, very relevant.

[Operator]

The next question comes from Alan Alanis, UBS.

[Alan Alanis, analyst]

Just a couple of brief questions. First regarding Brazil and Seara, I mean clearly you faced significant cost pressures on the price core going up more than 40%, and you were able to pass this pretty successfully, and at the same time, expand margins. You had an EBITDA margin higher than your main competitor. The first question is how do you see the competitive environment with BRF on the back of this very, very positive competitive outlook, total competitive results on the third quarter? That would be my first question, then I just have a follow-up on a different topic.

[Gilberto Tomazoni, executive]

It's Gilberto Tomazoni speaking about the environment of -- the cost environment in the market, I believe that now we have more rational behavior in the market. And this moment, Brazil has shouldered a lot of the increase of the price of the grain, I believe that all of the market is focused on to pass this cost to the price.

[Alan Alanis, analyst]

And do you think that rationality will continue through 2019, correct, Tomazoni?

[Gilberto Tomazoni, executive]

It's difficult to say that, but what we see now more rational. But I cannot predict what is the behavior of the competitor. I can tell you look, we are focused on improving our margin by managing mix because it's so important. It's not just about the price. It's the listed price, it's to manage the mix, and we are focused to reduce the level, the volume that we have at the less valued product. Brand, the regional brand. We tried to reduce the volume we are selling with the value brand. We are focused on premium brands. This is our main focus. You can see that we are able, Seara was able to increase the price because of the focus on premium. Premium, we pass the price, the different price, of course, but to manage the mix. And this is all our target. We are investing in brand. We are investing in innovation. We mentioned during the presentation Seara won 2 prize, one in Brazil, FI innovation in Brazil and 1 in France. This is a focus, focus on improving, enhancing mix and try to reduce the volume in the regional brands, not the fighting brands. We are against fighting brands. We are focused on premium brands.

[Alan Alanis, analyst]

A lot of progress and success with the Seara brand positioned at that level. My last question regarding the tax regularization program. I mean you've been one of the few companies that we track that have been bringing off balance sheet taxes into the balance sheet and getting into these negotiations. How do you see any change in taxation outlook on the back of the new government taking over in Brazil, if any? And do you see or do you anticipate any of these kinds of agreements like the one you had with Funrural in the near future?

[Jeremiah O’Callaghan, executive]

Yes, Alan, Jerry here. It's difficult to predict what sort of tax policies future governments will have, so we wouldn't like to speculate on that. Basically, what we consider to have been in the relevant tax liabilities have been dealt with by the company over the last 12 months. So we don't see any further necessity for any further agreements or any further negotiations with regard to tax liabilities going to future.

[Operator]

The next question comes from Carla Casella, JP Morgan.

[Carla Casella, analyst]

I just wanted to clarify. So the discussions you made around China and that new business, that's all -- is that are related to Alibaba? And is it all coming from the Brazilian supply?

[Jeremiah O’Callaghan, executive]

No, no, Carla. If you look at slide number -- let me check the number here, #17 in our presentation, which is on our website, we break it down by import company. So you've got the names of the import companies with whom we signed various memorandums of understanding. It's not one memorandum. It's a memoranda of each one of those customers and this, by the way, Carla, it's independently of the business that we conduct normally with our customers in China, which is a market where we have a regional sales office, and we have a regular customer base. This is incremental memorandums that we have agreed upon in this recent exposition. The majority of the product is due to come from Brazil, but not all of it. Australia also signed a memorandum of agreement to supply some of its high-quality products and to customers in China as well.

[Gilberto Tomazoni, executive]

But to be clear, the agreement, it's a global agreement with JBS. Of course, Brazil is supplying more because there is an agreement between the country that influence the supply.

[Carla Casella, analyst]

Right, and was this a new event that was hosted in China? Or was it something that was new for you to participate in?

[Jeremiah O’Callaghan, executive]

This isn't the first China international import exposition. This is the first of what is earmarked to be continuous events where China seemingly plans to have a relevant event in order to be able to source product and particularly food products for the Chinese consumer.

[Carla Casella, analyst]

Okay, great. And do you see any other Asian markets that may follow suit and do similar-type events or similar opening up more to additional imports?

[Jeremiah O’Callaghan, executive]

Maybe André would like to mention this as well. But other Asian markets are traditional markets for our products from various platforms. So we have ongoing volumes going into many other Asian markets. There's been a lot of incremental volume into China. André earlier mentioned the statistic, which I thought was very interesting, with regard to the volume of imports and how they've increased over the last 10 years into the Chinese market. Maybe, André, you could just highlight that again.

[Andre Nogueira, executive]

Yes, you are absolutely right. So China of course has recovered just fine because the amount of growth in the last 10 years caught a lot of attention. But let's keep in mind Japan is the most important market for U.S. beef., South Korea is the second-most important market for U.S. beef and both are very important markets for Canada and Australia. But let's call the attention to growth that's not only in China. The Philippines now is the seventh-largest market for U.S. beef. The growth the last year is 26%. Indonesia become a very important for the Australian beef. And Canada, it's growing exports to China in a very fast pace. So there's a whole region that north of China because of [ the fights got ] a lot of attention, but let's keep in mind that now without that production there in the protein side, JBS exports 15% of the total global sales to Asia. We're selling in Asia today $7.5 billion every year, and the way that has been growing, the position that the company has, I would assume that this will be much, much bigger than that in 5 years from now.

[Operator]

Next question comes from Luca Cipiccia, Goldman Sachs.

[Luca Cipiccia, analyst]

Just a couple of follow-ups on some points that were discussed earlier. The first on this -- on the China agreement, maybe if you could clarify a little bit more the time line, the next steps and the impact maybe on an annualized basis that we -- realistically we'd be able to see in 2019, and I think that would be my first question, and then I have a follow-up on Seara as well.

[Jeremiah O’Callaghan, executive]

Yes. Luca, the agreements that were signed in China, just to remind you, they're memorandums of understanding. So obviously, there is a period one has to transform a memorandum of understanding into actual business. But the time line between one and the other, it's not a prolonged time line. Our expectations are is that this will take shape and will be a relevant volume by early 2019.

[Wesley Batista, executive]

So, Luca, this is Wesley, if I can add. I think the main meaning of this memorandum of understanding and what the main relevance of this MOUs for our business is that the consumption of protein in China is growing and more and more the customers there that partners with us are looking for relevant suppliers and suppliers that are prepared to meet that demand. So this memorandum of understanding, I guess, is more of a product of us being in that market, growing in the market, having better ties in that market, having better relationships in that market and have invested in our plans to be ready to supply to that market with the quality and service that they need. So I guess more than anything, more than the actual, it's the partnership that we're building together to meet that challenge of selling more protein in that market. I think that's the main message of these MOUs.

[Luca Cipiccia, analyst]

Understood. And maybe -- I think you commented on this earlier, I think it's fair to assume that all we're talking about here is incremental. It's not shipping channel. It's all incremental volume potentially.

[Wesley Batista, executive]

Exactly, that's correct.

[Luca Cipiccia, analyst]

All right, cool. And then the second question is on Seara. I find it quite interesting that you're talking about premium and improvement in mix and price increases at a time when it seems that the Brazilian consumer has been quite slow returning to trading up, if you could call it that way. So I was wondering if you could comment a little bit more maybe on the type of responsiveness that you've seen in the consumer in this initiative or if you are embarking in this sort of new push. Arguably, you played quite well the down price of the cycle when I think Seara gained share, maybe when consumer was looking a little bit more value for money, if you call it that way. I think it's interesting where you seem to be shifting now more on the mix improvement. But again, looking at some of the messages from other companies across different product categories, many promise this type of trade up or mix that are quite slow in coming. So maybe any more color on that on how the consumer is reacting and why you see that is already the right time to shift gears maybe on that front.

[Gilberto Tomazoni, executive]

It's Gilberto Tomazoni speaking. First, I think it's important to understand the dynamic of our market. We produce the raw material. We have chicken. We have pork. And we process it, and we disassemble, and then we assemble. And the cost of the raw material is the same. It's in the tender of the cut, your cost is the same. To say that you are using one cut to put in a product, the value's lower than the other. It's just an internal decision because the cost is the same. Then when we sell a product with low value, we are losing the opportunity to sell product with higher value because the raw material is different from the cost. And then because of that, we are investing in the brand, improve the preference of the brand. From the beginning when JBS bought Seara, we focused on improving the value of the product, and we are keeping -- you are -- I think Seara is doing a great job in -- to improve the value of the plan. And of course, we need to adapt our portfolio. When there is more value in the brand, we have an opportunity to sell value-added products. Because of that last year, we launched Seara gourmet. Why Seara gourmet? Because Seara gourmet, it's a high-value product. We make the best product in the market. There is good, there is very good and then there's Seara gourmet. It's really best product in the market. Why? It's just because we need to achieve this certain level, the best value that's possible in the market. Of course, there is a breakdown, there is slow and medium and low. But the consumer likes to buy good products, not cheap products, good products. If the good product's cheap, it's another thing. It's perfect, but the good product. And this because of that, where do we start? We start a lot of regional brands. Now we reduced the regional brand, not make sense because of the cost of raw materials. And this is the trend we are focused on really because you all the time, you find someone in the market can sell a cheap product. A lot of small company in the market, they are focused on that. We don't want to compete with this in this market.

[Luca Cipiccia, analyst]

Are you seeing a consumer that is somewhat a bit more, a bit healthier in terms of accepting or having the possibility to trade up to better products? That seems to be the case.

[Gilberto Tomazoni, executive]

Yes.

[Operator]

The next question comes [ Declan Hannon ], Santander.

[Unknown Analyst]

I have a couple of questions. So it's been about 2 years now since the initial headline and price falls started. And since then, the company I think has done a pretty good job of managing through it. We are still waiting for some piece of information like the DOJ resolution, which I imagine, you guys will require before you update your S-1. But generally speaking, the volatility risk has subsided. So what is next with respect to the balance sheet? At below 3x, that leverage in dollars, what's the right amount from a return on equity perspective, given that your equity is still 25-plus percent below the level it was before the last 2-year period began? You're still a couple of notches below the ratings from this time frame. So is that important to the company at this point? Or should we expect cash upstreams to JBS to increase in 2019 given expected flow generation? That's pretty much it.

[Jeremiah O’Callaghan, executive]

Okay, thank you, Declan. So with regards to what are the next steps for the company, we've already and Tomazoni's going to highlight a couple of points in his concluding remarks as to what the continuing targets of the company, and one of them is to continue deleveraging. We are in the 3x range right now. We've already indicated we want to continue to reduce that. So that's part of the strategy, deleveraging. With regard to the rating agencies, obviously, the rating agencies is a consequence of the actions of the company. We believe that we are performing the correct strategy, the correct actions of the company, and this will eventually be reflected in the ratings. So we do not set as a target a rating, but we do feel that the rating will be a consequence of the activities. I think Tomazoni wants to...

[Gilberto Tomazoni, executive]

So I would like to add about the deleverage the company. I think first, it's important that we deliver what we have promised about regards of the debt because this is so important. And we are focused on deleverage, and the level of deleverage will depend the performance of the business, but we are focused on cash generation and cash transform using the debt.

[Unknown Analyst]

Understood. My point was, just to be a bit more specific, given that you've done a lot of that as referenced in your presentation and you talked about it over the past 18 months, and you're back to a sub-3x net debt-to-EBITDA level in dollars, what do you think at this point, looking into 2019, is the optimum level versus using your cash generation to upstream and pay equity holders because your equity has lagged? So from a balance sheet perspective, you've done a lot of work at getting back to where you were. Still can be reflected a little bit more in ratings if that's a priority. But certainly, you're going to have cash flow most likely in '19. What's the optimum use of that and is it 2.5, is it 2? Are you better off to increase your dividend from a return on equity, return capital perspective?

[Jeremiah O’Callaghan, executive]

So setting a target right now, like Tomazoni said, we continue to generate cash. We continue to prioritize deleveraging. One of the comments, which I thought was very relevant, which Tomazoni made in his initial comments is that we've actually reduced our annual cost of servicing debt by $300 million by reducing our gross debt. So we believe we can continue to do that. We are not prioritizing dividends. We don't have any plans beyond what is legally required with regard to dividends. So we will continue to pursue the deleveraging process and the improvement of our balance sheet. And this will be reflected -- when you see the reduction in the cost of servicing our debt, this in our view, will be reflected in the equity of the company over time.

[Operator]

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

[Gilberto Tomazoni, executive]

I think we want to reemphasize that just because of the last question, I think we need to reemphasize it's important our top priority of the company, continued focus on personnel efficiency, organic growth, investment in innovation and quality, focus on deleverage and world-class global combined product. This is a focus from the beginning. It's 1 year the focus. We keep this focus and then the result of this, we are deliver now, and what will be the future, we keep the focus. This is important. The second point I want to emphasize is our business model. We have a global footprint, and we are discussing now about China and about Asia to grow the protein. I believe, I strongly believe we are well positioned to take advantage, to take the opportunity for this growth, because we are a global company and a global footprint. And to finalize the remarks, the conclusion, I want to thank each one of you for joining this conference call. I would like to thank our leadership team who have done and continue to do a terrific job. And I would like to thank our more than 200,000 employees who, with their hard work every day, has helped make this company the success it is. Finally, I would like to thank everyone who supported our growth and contributed so significant to our success. Thank you.

[Operator]

This concludes JBS audio conference for today. Thank you very much for your participation, and have a good day.