Eregli Demir ve Celik Fabrikalari TAS

IST:EREGL.E

Earnings Call Transcript 2021-Q3

[Operator]

Ladies and gentlemen, thank you for standing by. I am Maria, your Chorus Call operator. Welcome, and thank you for joining the Erdemir conference call and live webcast to present and discuss the third quarter 2021 financial results. [Operator Instructions] The conference is being recorded. [Operator Instructions] Please note, Eregli Demir Çelik Fabrikalari T.A.S. (Erdemir ) may, when necessary, make written or verbal announcements about forward-looking information, expectations, estimates, targets, assessments and opinions.

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 is 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.

At this time, I would like to turn the conference over to Ms. Idil Önay Ergin, Investor Relations Manager. Ms. Edin, you may now proceed.

[Idil Onay, executive]

Thank you very much, Maria. Good afternoon, everyone. Welcome to our conference call and webcast of Erdemir and its subsidiaries for the third quarter of 2021. Today, our CFO, Mr. Serdar Basoglu, and our Financial Control and Reporting Director, Mr. Ulas Yirmibes, are also joining the webcast.

First of all, I will go through our investor presentation, which you can find on our website, and you can also follow it through the webcast. Then at the end of this presentation, there is going to be a Q&A session as usual. But before starting the presentation, I will hand over to our CFO, Mr. Serdar Basoglu. The line is yours.

[Mustafa Basoglu, executive]

Thank you, Idil. Good afternoon, everyone. Thank you for joining us today again. Welcome to our third quarter conference call. As usual, we will share the detail of our third quarter performance by the presentation. But before starting our presentation, I would like to highlight the market expectations for next quarter.

As you remember, in the last quarter's conference call, we were delighted to announce that EBITDA margin of the second quarter was the highest margin in the company's history until today. Today, with 40.7% EBITDA margin, we are very proud to publish another successful quarter and witnessed a new record in the company's history.

Certainly, our successful results are not limited only with the EBITDA margin. As you all see, our sales revenue increased by 9% and net profit was more than 7x compared to the same quarter of the previous year. And also, if you remember in the last quarter's call, we noted this year, we anticipate that each quarter will be the successful quarters in the company's history when evaluated individually.

Although third quarter was the best quarter of the year, we expect also fourth quarter results will be at a satisfactory level. As a result of these positive expectations, as you know, we are delighted to be one of the most valuable companies based in Istanbul.

On the market side, HRC Turkey domestic price was around USD 910 at the end of September 2021. And we saw the lowest level of USD 860 at the beginning of October. Our order book is still full for 2, 2.5 months. Consequently, the reflection of this price movement on the financial statement will be visible in Q4.

On the other hand, when we look at the iron ore prices after reaching such a high level nearly USD 220 in June and July also, iron ore prices are also decreasing. But let me remind you that while spot prices have dropped around 40% in the last 3 months, HRC Turkey prices have decreased only nearly 11% at current prices. So we should also mention coking coal prices, which has recently seen USD 400 level. Due to our -- but I want to say, due to our attractive raw material position and also the time tag, the effect of increasing coal prices in our costs will be less visible in Q4.

I can say we will see the effect of increase in coal prices in our costs only starting from middle of December, but also we will see the positive effect of decreasing iron ore prices in Q4. At current price levels, we therefore think that in our cost structures, increasing coal prices will be mostly offset by the decrease in iron ore prices. As I mentioned earlier, we expect that both raw materials and sales prices will normalize eventually. On the other hand, we do not see -- we do not foresee a decrease in steel demand in the short term.

So now I would like to hand over the mic to IR manager, Idil.

[Idil Onay, executive]

Thank you, Mr. Basoglu. Our presentation consists of 2 sections, as you already know. The first one is the market overview and then the financial results. So let's start with the market overview.

In Page 5, you will find the crude steel production figures in Eurozone, China and CIS regions. So world crude steel production was around 1.5 billion tonnes in the first 9 months. It means that it's up by 8% compared to the same period of 2020. The European Union produced 150 million tonnes of crude steel in the first 9 months of 2021, up by 17% compared to the same period of 2020. China's crude steel production, as you may see on the upper right-hand side, reached 806 million tonnes, up by only 2% when compared to the 9 months of 2020. And finally, CIS region produced around 79 million tonnes of crude steel during this period, and it indicates around 6% increase.

The World Steel Association released an update of its short-range outlook for 2021 and '22 in October. And World Steel forecasts that steel demand will grow by 4.5% in 2021, after 0.1% growth in 2020. And in 2022, steel demand will see a further increase of 2.2%. So the current forecast assumes that with the progress of vaccinations across the world, the spread of volume of COVID virus will be less damaging and disrupted than seen in the previous way.

I will explain the latest figures in Turkish steel market in the following slide. So let's continue with the raw material markets. In Page 6, you will see the prices of steel-related commodities. Let's take a look at coking coal, iron ore and scrap prices. Current price level of coking coal is around $400 per tonne. In our second quarter conference call 3 months ago, it was around $200 per tonne. So it's almost doubled. Coking coal prices are not expected to decrease significantly by market experts in the short term as the global supply-demand balance continues to tighten.

Iron ore has fallen more than 40% in the last 3 months and remains below the $120 per tonne level. Although there is an uncertainty in the market regarding the iron ore price future, it is highly likely to see $100 levels. I also would like to remind that Erdemir is around 15% self-sufficient in terms of iron ore.

The latest scrap price level is around $500 per tonne and has not seen below $400 level since February 2021. As we always remind that high scrap price is the kind of disadvantage for the electric arc furnaces.

On Page 7, you will see the production and consumption figures of Turkish steel market for the first 8 months of 2021. Since the end of second quarter of 2020, with the reduction of the negative effects of COVID-19, both production and consumption have increased. While steel production increased around 18%, steel consumption increased around 20%.

On Page 8, exports and imports data are represented. Turkish steel industry completed the first 8 months of 2021 with a significant increase in production and exports. However, the increase in export lags behind the increase in imports. According to Turkish Steel Producers Association, the fact that China has started to reduce production in order to reach its green agreement targets and directing the current production to domestic consumption, it has created an opportunity for the Turkish steel industry.

So let's take a look at the financial results and the operational metrics. On Page 10, you will see the brief summary of our first 9 months results. In the first 9 months of 2021, we produced 6.9 million tonnes of liquid steel, 5% higher than last year. During this period, long production declined around 210,000 tonnes, while flat production increased around 370,000 tonnes. We sold around 6.1 million tonnes, which was in line with the first 9 months of 2020.

Our revenue is just about $5.3 billion, which is around 63% higher than the first 9 months of 2020. Although we generated $2.1 billion EBITDA and $1.3 billion net profit after tax, which are the new historical high levels. I will explain the details of P&L later in the following slides.

On Page 11, you will see the liquid steel production volumes, and I will skip this slide quickly because I already mentioned and continue with the next slide, which is about capacity utilization ratio of our group.

Our capacity utilization ratio was realized at 95% in the first 9 months, and this ratio was 94% in the first half. As you all know, this ratio is far better than the world's average and is one of the key strengths of Erdemir.

On the next page, you can see our finished goods production volumes. There is 62,000 tonnes increase in 9 months year-over-year, which comes mainly from the flat steel. As you know, depending on demand, we can easily shift our production between flat and long steel.

On Pages 14 and 15, you will see the comparison of sales volumes and revenue. Our sales volume was around 2.1 million tonnes in Q3 this year. It increased by 6% quarter-on-quarter. So basically, it's a kind of flat by quarter. On Page 15, you can find breakdown of revenue for domestic and export sales. 80% of revenue comes from domestic sales in line with the domestic volume, which will -- which we will discuss in the next page. Our sales revenue increased by 91% year-over-year in Q3 2021, driven by the high sales prices.

So let's take a look at the segmental breakdown of domestic sales in Page 16 and export volumes in Page 17. As you can see from the pie charts, our domestic sales were 160,000 tonnes higher than the first 9 months of 2020, while sales through distribution chain, general manufacturing and automotive increased compared to last year, sales to pipe and profile industry has declined.

Total export volume in Q3 was higher than the first and second quarter exports, as you can see in Page 17. This is mainly because of the attractive prices in the foreign market.

On Page 18, you will see the historical figures for EBITDA and net profit. We generated $2.1 billion EBITDA in the first 9 months of 2021. And our EBITDA margin of 39.3% is far better than the steel sector's average. Also, we announced $1.3 billion net profit and a 25.1% net profit margin in the first 9 months of the year. Our third quarter EBITDA margin is the highest margin in the company history, as Mr. Basoglu mentioned earlier.

On Page 19, you can see how we reached to net profit from EBITDA. The largest item was tax expenses, which was $580 million in the first 9 months. Due to the Turkish lira depreciation, we have recognized additional foreign exchange loss on the deferred taxation, which is $147 million in the 9 months. The other major items in this chart were finance income of $43 million and depreciation of $161 million. After other expenses and noncontrolling interests, we reached $1.3 billion net profit.

On Page 20, you can see EBITDA to change in cash bridge. Change in working capital is a result of higher inventory, which is around $712 million. The reason for the increase in inventories is basically the rise in commodity prices. Also, we spent around $339 million to capital expenditures in 9 months of 2021. This amount also includes advances paid for the capital expenditures as well and that -- we will see the difference between the CapEx page in Page 27 and this one. After the dividend payment of $827 million and acquisition of $294 million, the first 9 months' change in cash level was $378 million.

On Page 21, you can see the EBITDA per tonne trend. We have achieved $404 per tonne in Q3 and this is the best quarter in terms of EBITDA performance in company history.

Let's take a look at the balance sheet on Slide 22. We explained the change in working capital and cash before. As I mentioned earlier, after the dividend payment of $827 million and the acquisition of $294 million, cash amount decreased by 21%. There is around 8% increase in fixed assets due to the Kümas acquisition. Also, there is an increase both in inventories and trade receivables and payables due to the price increases in steel and raw materials. Other than these items, there is no significant change in our balance sheet position.

On Pages 23 and 24, you will see the historical trend of financial borrowings and net cash. Our net cash position will increase again at the end of the year due to the increase in profitability in the steel industry.

So the next page just shows how we reached to this net cash level since December 2020. Our net cash position was $984 million at the end of 2020. After the dividend payment and the acquisition, the first 9 months cash level -- net cash level was $245 million due to the EBITDA generation.

Slide 25 represents the maturity profile of borrowings. As you can see, the most of our short-term loans are revolving trade financing facilities, mainly related to the exports and import activities.

Slide 25 (sic) [ Slide 26 ] represents our cost of sales breakdown. There is no significant change in our cost breakdown. However, the composition of iron ore and coking coal and raw material costs has changed. And the percentage of iron ore costs increased in the raw material basket, which is in line with the trends in raw material markets.

Page 27 represents the historical CapEx spending. The total CapEx spending, excluding advanced payments, is $288 million in the first 9 months of 2021. Our ongoing projects such as new blast furnaces are on progress, and there is no cancellation from the announced investments. And our capital expenditures will accelerate in the coming quarters.

As the last thing, there is an increase in the number of employees due to the addition of new subsidiary, Kümas employees.

So now we may continue with the Q&A session. We will be delighted to answer your questions with Mr. Serdar Basoglu. Thank you for listening.

[Operator]

[Operator Instructions] The first question comes from the line of Shaw, Dan with Morgan Stanley.

[Dan Shaw, analyst]

I just have one actually. Just looking at your working capital, the buildup so far this year is roughly double the free cash flow generation. So the question is with market conditions as they are in terms of commodity prices and steel prices, if those are maintained to the end of this quarter, for example, what would be the impact on your working capital position? Would you release some in the fourth quarter? Or would it be -- remain roughly the same? So just your sort of expectations on that going forward.

[Idil Onay, executive]

Well, considering the price trend in the fourth quarter, we expect it to remain at the same level actually.

[Dan Shaw, analyst]

Okay. Understood. So the unwind -- well, I suppose depending on market conditions, but we'll probably have to wait until 2022 to see some of that working capital come back.

[Idil Onay, executive]

Yes. That's correct.

[Operator]

The next question is from the line of Fedotov, Anton with Bank of America.

[Anton Fedotov, analyst]

I have 2 questions. Can you please tell us your CapEx guidance for the following year and give us some update on the ongoing investment projects? And my second question relates to the current price environment. What are your price expectations for the fourth quarter? And do you have any visibility right now into the first quarter prices for steel?

[Idil Onay, executive]

Well, when we consider the capital expenditure, in our Q2 call, we mentioned that you may assume this figure will reach up to $550 million to $600 million with maintenance and other overall investments. But there will be a period shift of about $100 million. So you may assume that it's going to be around $450 million to, let's say, $500 million in total in this year.

And your second question was about price trends, I guess. So obviously, iron ore prices have dropped around 40% in the last 3 months and HRC Turkey prices have decreased only 11% at current prices. So due to the time lag, you will see the effect of increasing coal prices in our costs starting from December this year. But as mentioned earlier, we expect that both raw material and sales prices will normalize eventually. So if I need to summarize, there will be effects of high coal prices, but lower iron ore prices and also lower HRC prices, sale prices.

[Anton Fedotov, analyst]

And can you give us your CapEx guidance for 2022?

[Idil Onay, executive]

Sure. Actually, we assume that it will accelerate. So I mean, at the beginning, we said that it's going to be around $400 million for the new CapEx plan for the investments we already announced in 2019. And with the maintenance and other ongoing investments, it should be between $550 million to $600 million, and you can take this number until 2024 for each year.

[Operator]

The next question comes from the line of Sinitsyn, Boris with VenCap.

[Boris Sinitsyn, analyst]

Congratulations with the best of results. Just one question from my side, please. Given the recent increase in raw materials price, namely for coking coal, do you consider any further integration into your materials? I'm referring to your acquisition of Kümas this year, but maybe you are thinking about other raw materials as well.

[Idil Onay, executive]

Actually, we don't have any Board approved M&A plan or any other new investments, but we are always open for opportunities. And if we find visible facility, of course, we can consider it. But right now, we don't have any Board approved plan on the table.

[Operator]

The next question comes from the line of Agarwal, Krishan with Citigroup. Mr. Agarwal, can you hear us? Mr. Agarwal, can you hear us, sir?

I will now turn the conference over to Mr. Basoglu and Ms. Ergin for any closing comments.

[Mustafa Basoglu, executive]

Hello, everyone, again. Thank you for joining us today. We will happy for next quarter be with you. So thank you very much.

[Idil Onay, executive]

Thank you very much for joining us. Have a nice day.

[Operator]

Ladies and gentlemen, the conference has now concluded and you may disconnect your telephone. Thank you for calling, and have a good afternoon.