Eregli Demir ve Celik Fabrikalari TAS

IST:EREGL.E

Earnings Call Transcript 2019-Q1

[Operator]

Ladies and gentlemen, welcome to Erdemir Group 2019 Quarter 1 Financial Results Conference Call. Erdemir may, when necessary, make written or verbal announcements about forward-looking information, expectations, estimates, targets, assessment and opinion. Erdemir has made the necessary arrangements about the amounts and results of such information through its disclosure policy and has shared such policy with the public through the Erdemir website in accordance with the Capital Markets board regulations. As stated in related policy, information contained in forward-looking statements, whether verbal or written, should not include unrealistic assumptions or forecasts. It should be noted that actual results could materially differ from estimates, taking into account the fact that they are not based on historical facts, but are driven from expectations, beliefs, plans, targets and other factors which are beyond the control of our company. As a result, forward-looking statements should not be fully trusted or taken as granted. Forward-looking statements should be considered valid only considering the conditions prevailing at the time of the announcement.

In cases where it's understood that forward-looking statements are no longer achievable, such matter will be announced to the public and the statements will be revised. However, the decision to make a revision is a result of subjective evaluation. Therefore, it should be noted that when a party is coming to a judgment based on estimates and forward-looking statements, our company may not have made a revision at that particular time. Our company makes no commitment to make regular revisions, which would fully cover changes in every parameter. New factors may arise in the future, which may not be possible to foresee at this moment in time.

I will now hand you over to Mr. Avni Sönmezyildiz, Financial Controller and Reporting Director, who will take you through the presentation. Dear, Mr. Avni, please go ahead.

[Avni Sönmezyildiz, executive]

Good evening, ladies and gentlemen, and good morning to our colleagues in America. So welcome to the investor presentation of Erdemir for the period ending March 31, 2019. Our Group CFO, Emrah Silav; and our Investor Relations Manager, Idil Önay Ergin, are also joining the call with me. I'll go through the presentation, first of all. You can follow this on our webcast, and it will be available very soon in our website also.

As usual, I will -- we will take a look at the global market conditions in the steel market. Then, we'll go through our financial and operational results for the first quarter. After the presentation, we will answer your questions together with Mr. Emrah Silav, our Group CFO.

So let's start. Let's take a look at the crude steel production data in major steel-producing regions in Page 5 first. World crude steel production for 2020, the forecast we're reporting towards the association was 288 million tonnes in the first 2 months of 2019, which means around 4% increase compared to the same period of 2018. China's crude steel production for 2 months in 2019 was around 150 million tonnes, and it means an increase around 9.2% compared to last year. And CIS crude steel production was 2% down. And Europe's steel production was also decreased in the January and February, which means that 3.8% increase in world crude steel production was preceded by more than 9% increases in China's crude steel production, and it's mainly because of the China government spends to lift the economy.

Also, world crude [ tender ] just published a short offering range output this April, and we still forecast global steel demand will reach 1.735 billion tonnes in 2019. It means they expect increase around 1.2%, 1.3% over 2018 into this year. Also in 2020, demand is projected to grow by 1% to reach 1.752 billion tonnes.

In Page 6, you'll see the price trends in raw material markets. For coking coal, price is relatively stable and there's no such change in the market condition. Slight rumors in the prices are mainly related to weather conditions in the resource areas. However, in iron ore index, it's still strong and we have been at $95 per tonne last week. In the first quarter 2019, iron ore spot prices declined due to valid production cost cuts because of the dam accident in Brazil in their mine. And another reason is we're in [indiscernible] Australia. Although iron ore price went back to $90 per tonne again, there are news about the restocking activity in coals in China, and also there's a strong demand in China for iron ore. So we expect that the prices will stay strong.

And the last thing, scrap prices were between $200 to $320 during the first quarter.

And in the next page, Page 7, the steel production and consumption of final steel products in Turkey is presented. March final steel product data has not been announced by Turkish Steel Producers' Association, this chart is unsaid verification. However, they announced the crude steel data for the first quarter this week, and I'm going to mention about the crude steel production instead of these 2-month figures. According to Turkish Crude Steel Production -- Turkish Steel Producers' Association, steel production in the first quarter of 2019 was 8.2 million tonnes and it indicates 14.45% decrease compared to the first quarter of 2018. However, decline in the crude steel production is mainly coming from the electrical furnaces according to this data. Crude steel production is declined 20% in electrical furnaces, while there's only 2.2% decline in the integrated facilities. Also in the same period, crude production has declined, there are 23%, while flat production increased 4.5%. This data shows that the decline in crude production is coming from long steel production in the electrical furnaces, not from the integrated facilities or flat production.

In Page 8, you will find exports and imports figures in Turkish markets as of February 2019. Although quarter data have not been announced yet, 2-month figures indicate 600,000 tonne increase in exports and 800,000 tonnes decrease in imports. Increase in exports are mainly related to flat steel, while decrease in imports are most related to long, slab and flat steel as you can see on the chart. And this is -- what's going on in the steel markets? Now let's take a look at our financial results for the first quarter.

So you can see some operational and financial highlights on Page 10 in our presentation. As we expected, the positives and the negatives in the table, including flat shipments, aren't profitability parameters. However, we were still able to increase our sales volume about 2.2 million tonnes level, and it indicates more than 2% increase in the sales volume when compared to the fourth quarter of 2018. We are still running the [indiscernible] high capacity utilization, which is our primary motivation on this current domestic and international market condition.

And in next 2 slides, you're going to see the liquid steel production and capacity utilization chart. Unfortunately, world steel association is not publishing global capacity utilization rate due to the anti-trust concern of the organization. So we cannot compare our capacity utilization rate with the global ratio anymore. However, we assume that there's no significant change in be global steel capacity utilization ratio, while we reach 98% in the first quarter, as you can see in Page 12.

In Slide 13, we present finished goods production figures on a quarterly and annual basis. As you can see from this chart, production in the first quarter is around 2.140 million tonnes. And hot steel production decreased slightly, while long steel production increased around the same when we compare with previous quarter.

And let's take a look at the sales volume on Page 14. As you can see in this slide, we were also able to increase sales volume more than 3%. Increase in sales volumes is mainly related to increase in long steel exports around 60,000 tonnes.

And let's take a look at the revenue in Slide 15. As you can see the revenue and volume, average sales price is $637 in 2018 -- in last quarter of 2018. And in this quarter, it's worth $599 per tonne. And this represent around 6% increase in the average sales price in our financials. Finished goods and [ renter's rate ] before the delivery that come this 2018, that has partially recovered the effect of some decline in the sales partly in this quarter. I already mentioned that effect in the year-end financial results announcement, if you remember.

And in the next slide when we look at the distribution of domestic sales, we can see that there is no significant change in the distribution of domestic product sales, although domestic product sales were decreased 228,000 tonnes when compared to the first quarter of 2018. In the first quarter, we also talked about production of second galvanizing lines detecting those 2 lines. Although the effect of the second galvanizing line to the sales breakdown will be relatively low in 2019, they expect change in the scale up to the [indiscernible] the second line.

We added a new chart slide presentation for the export sales trend. As it can be seen from the graph, our export sales is on increasing trend, and in the first quarter, export was more than 25% of total sales. We assume that this trend will continue within the rest of the year.

In Slide 18, you will see EBITDA and net profits comparison. As expected, EBITDA per comp declined to $139 per tonne from $172 in the previous quarter. However, decline in the performance stability is partially caused by increase in sales volume, and EBITDA has declined only $33 million in this quarter when compared with the previous quarter. So quiet clear is EBITDA decline only $33 million, $122 million decline in the net profit comparable. Actually, this is mainly the foreign exchange difference to related March quarter before taxes -- taxation. In the fourth quarter of 2018, previous quarter, we had recorded $44 million foreign exchange gains over deferred tax. This quarter, it will lower your expectation and we recognize around $50 million in exchange loss for the deferred taxation. This is the main difference between net profit in the 2 quarters in addition to the EBITDA decline of $33 million.

I also would like to remind you that we may change our EBITDA calculation mainly because of inclusion of interest income on sales to the revenue after application of IFRS 16. And this time and starting from this presentation, we're providing you EBITDA reconciliation at the [indiscernible] presentation. So you can see the operational profitability EBITDA reconciliation, with clear reference to the footnotes in the financial statement.

We have also -- this is also another thing. We applied IFRS 16 using standards to the financials for the first time as required. And we have recognized long-term [indiscernible] effect [indiscernible]. Firstly, I wanted to recognize the assets and the liabilities and $36 million, or TRY 207 million. We applied simplified methods for the recognition of using IFRS standard, and we didn't sustain the prior year financial because the net profit and EBITDA effect were immaterial for our financials, we're going to take a material change in our EBITDA and net profit because of the application of IFRS 16.

So in the next slide, you will see the EBITDA to net income bridge. As you can see, there's a few sets of funds, due to foreign exchange losses coming from deferred taxation as I already mentioned. The amount of foreign exchange loss on the deferred tax was $50 million, I mentioned earlier. In addition to the Turkish Lira and Euro provision coming from the financial effect from liability, we also recognize $24 million foreign exchange gain from the dividend liability this time.

In the next slide, we presented EBITDA to net change in cash bridge. And I reminded you on the conference call of the year-end results, due to the decline in steel prices, we were expecting release of this working capital, and it happened, and there's $129 million released from the working capital in the first quarter, and it's definitely helped us to increase cash, although it takes around $167 million loans in the first quarter.

In Slide 21, you will find the EBITDA per tonne trend. This is maybe the most important KPI for the group, and I already mentioned the change in the previous slides while we were discussing the EBITDA and the net profit. I would like to remind you that this calculation has been around for only EBITDA from the finished steel products. It doesn't include the by product sales and the other provisional correction. That's why it's not equal to the simple calculation of EBITDA over total sales.

And in Slide 22, you can see the summary of balance sheet. Except dividend liabilities that we have recognized after the general assembly and decrease in working capital, there's no significant change in our balance sheet and our outlook.

Let's take a look at the financials borrowing. Our financial borrowing is up about $1 billion as of March 30. And we have reached net cash more than -- around $800 million at the end of this quarter. Even after the dividend statement, we will still be in good shape for the net debt position as it can be seen from this slide.

Next slide is the -- just shows the change in net debt, and I will keep it very quickly and I'll take a look at the Slide 21 -- 25, about the borrowing's maturity profile. As it can be seen from the maturity profile, most of bank borrowings are revolving trade finance loans, and we have so much room for the additional financial liabilities to finance the new assets.

Next slide shows you cost of sales breakdown. And although there is no significant change in the cost of sales breakdown, the effects of iron ore increased from 31% to 33% of all raw material costs due to increase in iron ore prices. And the estimate that the iron ore cost will increase in the following quarters because of the strong iron ore prices.

And next slide, Slide 27, shows the capital expenditures trend. We haven't started the CapEx spending of the new projects yet. That's where our first quarter capital expenditure is in line with previous quarter's at $43 million.

And as the last slide before the Q&A session, it will make you determine the number of employees. And there's a slight decrease in the number of employees mainly because of the retirement plan, et cetera.

This slide concludes our presentation. Now we can continue with your questions. [indiscernible]

[Operator]

[Operator Instructions] Our first question comes from Koray Pamir, Yapi Kredi.

[Koray Pamir, analyst]

A couple of questions, if I may. First of all, pertaining to the local demand and segmenting it between in the large accounts, mainly auto producers and [ white hood ] producers, and also small accounts. Are you observing some improvement in terms of restocking activity in the -- after the elections, or do you still see some of the fragile demands, in the local flat steel segment? Secondly, I know it's difficult to provide some kind of guidance for the whole year, but for the second quarter, in terms of EBITDA per tonne, could this be somewhat similar to the first quarter? But any color that you can provide will be much appreciated. And thirdly, regarding your investment plans, I know that the [ people ] is still ongoing but can you provide very brief updates pertaining to the [indiscernible], it could start or maybe it went to the amount of it.

[Avni Sönmezyildiz, executive]

Okay, thank you. Actually, domestic -- we haven't seen significant changes in the domestic demand after the election. I mean we [ hired perfect match ], but we also [indiscernible] already. The capacity position result was already good. The products, the hot product and the long as there is not significant change. As you can see, we are still running the facility with high capacity utilization, and we don't expect significant change on that. And for your second question, the second quarter EBITDA, I mentioned that there's a positive effect to the EBITDA coming from the unshipped finished goods inventory at the end of 2018. There was a positive effect coming from that. Also, the iron ore prices are maintaining. Its effect are inventory, slower than the finished goods sales figures. So we assume that we are close, we'll be increasing in the second quarter and you -- I mean, it's not clear yet for the whole quarter, but due to the increase in the iron ore cost and the inventory effect coming from the year-end, it could be lower than the first quarter. And for your third question about the CapEx plan, Mr. Silav will explain what's going on.

[Emrah Silav, executive]

Actually, I would like to give you a brief update about the investment plans. As you mentioned already, the process is still going on. Yes, we're close to finishing the negotiations about the blast furnace sites. We have just filed for the coking coal [ sector ] plant. The project for the blast furnace is after we finish everything up, we are planning to give you a figure about the investment side. And we are also at the end of negotiations with the ECA credit and we are planning to get 2 slots, several or 2, 10 years of loan. Right now, we are deciding about the financing path. So we will give you a better idea when we'll finish the process about the blast furnaces. As I mentioned already, the coking coal [indiscernible] has just started. So as we mentioned before, we will not provide details about that after we have decided on what's going on with the project.

[Koray Pamir, analyst]

Just a follow-up, a short follow-up. Pertaining to your local coking out of iron ore and coal, are you saying it's already operating at maximum capacity? But is there any even a slight room to procure, I would say, cheaper iron ore and/or coal from the local market? And should the global iron ore or common cost continue to increase.

[Avni Sönmezyildiz, executive]

I mean Koray, there is no domestic coal cost that we can use for the metallurgical cost. So there's no way to increase coking coal procurement. Iron ore, we buy -- there's lots we can buy from the domestic market, and the resources are also in there. There are 3 companies, but 2 of them are [indiscernible] and they get what they can get. So I don't think there's additional room for the local procurement in iron ore.

[Operator]

[Operator Instructions] Our next question comes from Cemal Demirtas, Alta Invest.

[Cemal Demirtas, analyst]

My question is related to your revenue mix. As far as I've seen from the details, you have higher growth -- high growth in the export side. But unlike previous quarters, we've seen increase in the long steel exports. Was it -- like was it a priority or was it just opportunistic in the first quarter? And how do you see the trends in the second quarters related to volumes?

[Avni Sönmezyildiz, executive]

Cemal, thanks for your question. I already said that there's 60,000-tonne increase in the long exports. And if you actually -- depends on the demand. So it's very hard to say something about the demand in long steel. And -- but we are looking for all opportunities all over the world to keep our export levels around these levels. It's a tough time because of the trade restrictions and the measures applied by the big economies like United States, Europe. Everyone is raising the barriers. So it's a tough question to answer, but we are doing whatever we can.

[Cemal Demirtas, analyst]

And Avni, as a follow-up, related to your EBITDA per tonne, based on your methodology. I see that with the raw numbers, it's $145. But you mentioned about IFRS impacts. And when I'll see your figures in the presentation, I see $139. Could we say that the difference between $145 and $139, is related to the accounting change? I guess I did not get that point clearly.

[Avni Sönmezyildiz, executive]

Actually, Cemal, if you look at the handouts, the presentation, and we can show it to you as a last [indiscernible] you will see actually, there are 3 major items that we changed for the reconciliation item. And one of them is the interest income on the customers, the sales, because we charge interest for the overdue receivables. It's around $600,000, and the other one is the rediscount expenses, discounting of [indiscernible] because of the IFRS 9. And the main change in the -- we used to recognize this interest income on sales -- different from the EBITDA. We kept it on the other income. And after the IFRS [ 16 ], we had to reclassify it to the revenue because it's a new regulation. That's why we changed that. There's no significant changes, actually, except the interest income. And that's some [ $1 million ]. And you will find [indiscernible] $621,000 for the first 3 months.

We have -- we try to -- win more explanatory, and you can find the EBITDA reconciliations with the footnote to the financial statements at the end of the presentations. But the difference between our calculation and your calculation, it is not mainly because of this. It's because we only calculate EBITDA per tonne from the finished product sales [indiscernible]. We don't have such information, that's why there's around a $13 million difference between your calculation and our calculation considering we take the same EBITDA of $323 million.

[Operator]

[Operator Instructions] Our next question comes from Fulin Önder, Seker Invest.

[R. Önder, analyst]

I just wanted to check if I heard you correctly earlier about the impact of new IFRS 16 on your EBITDA as $36 million. Is the number correct?

[Avni Sönmezyildiz, executive]

Sure. Yes, it is actually -- let me check the number. It is $36 million, yes. We have [indiscernible] linking assets and the linking liability around $36 million initially at the beginning of the year. And it goes to around TRY 110 million. You can find the details at the footnotes in the financial statements. We have explained the corrections in more detail.

And one more thing, there is no total EBITDA effect because these rentals are general long-term rentals. That's why we're giving that statement. So it's a [ $6 million ] but because of the straight line expense recording and the new methodology, the difference is immaterial. It's -- we're not talking about $1 million. It's not a $1 million difference.

[Operator]

[Operator Instructions] Our next question comes from [ Amit Malhotra ].

[Unknown Analyst]

Just a quick question on your dividend payment date. I mean has that been announced yet? Have you declared when you will pay the dividend?

[Avni Sönmezyildiz, executive]

We haven't announced yet. The Board has not decided with the timing of it. So once the Board makes a decision, we will announce at the same day.

[Operator]

[Operator Instructions] We have no further questions. Mr. Avni Sönmezyildiz, back to you for a conclusion. I think we actually just had a question coming from Mr. Cemal. Mr. Cemal please go ahead.

[Cemal Demirtas, analyst]

I had another follow-up question about pricing environment. I tried to follow the current prices from secondary sources, and what I see is there's a [ discount ] between the Turkish prices and the European prices, more significantly -- such as like the Turkey prices are around [ TRY 500 million ], whereas European prices are around $530 million. And the Chinese exports are around [ 530 ] per levels. And normally, in the past, it will be absorbing less difference between the China exports and the Turkey prices. Do you think those prices are real or just for the limit that's -- order or contract? I'm trying to understand if there is something like that additional weakness into these prices compared to the other regions' prices.

[Avni Sönmezyildiz, executive]

Cemal, actually, because -- sometimes, you see that differences. Normally, as you mentioned, there's a balance between the regions like China and [indiscernible] and Europe. Sometimes it changes. And this time, yes, because of the slowdown in demand in Turkey, the [indiscernible] prices is weaker than the other regions, that's correct. But it's not that we don't know what will happen in the following regions because no one knows what will be the price and the market condition. But for now, that is the case. Also, for China case, they announced some support for infrastructure investments in a couple months. It was -- plus they also eased their mindset policy a little bit last week. So those are making some transitory changes, depending on the analysis and the expectations about the Chinese economy.

[Cemal Demirtas, analyst]

So the prices in China are not declining though. When I look at the [indiscernible] prices, the prices are 5 4 to 5 levels. So I'm trying to understand that -- the latest prices are [ top priority ] because we are in just unprecedented times in terms of demand side of products and sell side. That's right, understand how these trends could change.

[Avni Sönmezyildiz, executive]

Again, for China case, because of the announcements coming from projects and sales supports the investments in infrastructure types of capacities, support with the -- supporting the practice, that's our opinion too, for the European [indiscernible] case. The demand is a little bit low with the [ PMI ] and the other data coming from European Union and, like, industrial economies are a bit lower lately. I think that's the reason behind this balance. So we hope to see that the European demand will be picking up, but China is -- it just needs [ stronger ] than we expect to see compared to the beginning of the year.

[Cemal Demirtas, analyst]

And maybe you saved time -- one last question. Related to your deferred tax expense, you mentioned that it's higher because of the insurance.

[Avni Sönmezyildiz, executive]

Yes.

[Cemal Demirtas, analyst]

My question [indiscernible] much, much higher than we thought, that 35% [ effective ]. If the currency stay there, could you tell us at this time and exactly its effect in the first quarter. And if the currency stays at current levels, and what would be the impact just roughly maybe clarify things.

[Avni Sönmezyildiz, executive]

Actually, it's [indiscernible] linear effects, like the foreign exchange loss on the financial effects of [indiscernible] because there are many factors. The first, it means that the local taxation -- local financial effects is foreign exchange gain/loss. And second, the balance sheet position changes. So -- I mean there's no formula for that, unfortunately. I mean there's a formula but it's a little bit complicated, and I don't want to confuse you about it. But unfortunately, this is the case. We have to -- we got to live with that as long as IFRS [indiscernible] change the regulation, unfortunately. This [ includes ] $50 million. Last time, it was $44 million gain in the last quarter of 2018. This time, $50 million loss.

[Cemal Demirtas, analyst]

Avni, should we expect this normalization throughout the year [indiscernible].

[Avni Sönmezyildiz, executive]

I think specifically, if this is -- the currency -- the dollar starts to stay to this level, you will not see anything. The -- it depends on the current time. And if the currency goes higher and higher, we will be recognizing more and more deferred tax losses.

[Operator]

[Operator Instructions] We have a question from [indiscernible].

[Unknown Analyst]

I have a follow-up to Cemal's question. The -- regarding these pricing alignment. I mean assuming that the spreads between Turkey and the other regions normalize, would you expect Turkey to converge to others or other regions come to Turkey? That's number one question.

The second one is related with the product splits. Maybe you talked, but I may be missing that point. EBITDA per tonne in the first quarter was pretty much strong. And as you mentioned, coal and specifically, iron ore is coming up and causing this pricing gap with other regions. Would you expect -- or how much would be the EBITDA per tonne contraction in the coming quarters? Yes, that's the second one.

[Avni Sönmezyildiz, executive]

For the pricing, I would answer -- actually, in Chinese market, we kind of stay price [ effectively ] in the world. They produce and important export like 50% of all trading. So we would like to see the price would be evolving a little bit higher. But the latest figures from the European Union are kind of disappointing where you look at the [ PMI ] and et cetera. We don't know what the support [indiscernible] further supportive actions from the EU. I think it will easily convert upwards. That is what we are hoping to see. Compared to the beginning of the year, I think the price is a little bit solid and stronger because we haven't seen a downward sloping price. [indiscernible] is a bit better. And support is coming from China, which we believe that we will see further because of the government action. So we hope to see converting to both prices because it should be converting sooner or later, given the rate of Chinese markets in the trading regions.

And for the contraction in the second quarter, we cannot give you a number about that because there are many factors like the [indiscernible]. But it is always -- it's not important than your expectations. And there's no [ neglect ] on that. It's not -- the [ moment ] from EBITDA or the profitability is not like -- is not similar to the changes in sales prices. It takes time. So of course, there's going to be a different contraction, but I think that it will be lower than the change in the prices.

Also, for the iron ore piece, we are also following the forecast -- about the forecast about the iron ore. Most of the cases that we see on the report that is followed, they're expecting a price decrease in the third and the fourth quarter, kind of normalizing the prices. Now we see higher price, that's still going on. But most of the projections are expecting a downward -- way of the iron ore prices by the end of this year, third and the fourth quarters.

[Unknown Analyst]

And maybe for these high iron ore prices, meaning like 80-plus, did you buy any cargoes or -- because generally you are good at having relatively smooth iron ore costs, it is coming to 6 months leg to reach these levels down. So if you assume that iron ore prices are going to normalize, maybe we cannot see this price increase in your iron cost.

[Avni Sönmezyildiz, executive]

Actually, we cannot give you business lines about cargo, but you should still expect that we are very cautious about managing the inventory level. And we still keep a very good eye on that.

[Operator]

[Operator Instructions] We have no further questions. Mr. Avni, back to you for the conclusion.

[Avni Sönmezyildiz, executive]

Ladies and gentlemen, thanks for joining our call at Friday night in Turkey at 8:00. And we want us to be -- we wanted to share with you the results -- with you as soon as possible. We don't want to wait -- we didn't want to wait Monday for the teleconference. So thanks for joining our call, and we hope to see you again in the announcement of second quarter results. Thank you, and have a nice weekend.

[Emrah Silav, executive]

Thank you.

[Operator]

Ladies and gentlemen, this concludes our conference call. You may now disconnect.