Eregli Demir ve Celik Fabrikalari TAS

IST:EREGL.E

Earnings Call Transcript 2019-Q4

[Operator]

Ladies and gentlemen, thank you for standing by. I'm Konstantinos, your Chorus Call operator. Welcome, and thank you for joining the Erdemir conference call and live webcast to present and discuss the full year 2019 financial results.

Please note that Eregli Demir Çelik Fabrikalari T.A.S., Erdemir, may, when necessary, make written or verbal announcements about forward-looking information, expectations, estimates, targets, assessments 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, this decision to make a revision is a result of a 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 Mr. Avni Sönmezyildiz. Mr. Sönmezyildiz, you may now proceed.

[Avni Sönmezyildiz, executive]

Thank you, Konstantinos. Ladies and gentlemen, welcome to the investor webcast of Erdemir and its subsidiaries for the year ended 31 December 2019.

Our Investor Relations manager, Idil Önay, is also joining the webcast with me. And today, first of all, we'll be going through our investor presentation that we uploaded on our website, and you can also follow it through the webcast, then there's going to be a Q&A session. And our investment -- investor presentation consists 2 sections, which are market overview and financial results.

Let's start with the market overview. In Page 5, you will find the crude steel production figures in Eurozone, CIS region and China. In 2019, global crude steel production reached 1.870 billion tonnes, which means that it is up around 3.5% compared to the 2018. Crude steel production declined in all regions in 2019, except in Asia and the Middle East. China's crude steel production, as you may see on the upper right-hand side, reached 996 million tonnes, up by 8.3% when compared with 2018. China's -- as a result of these production figures, China's share of global crude steel production increased from 51% to 50 -- more than 53% in 2019. European Union produced 159 million tonnes of crude steel in 2019, which means that the crude steel production in Eurozone decreased around 5% in 2019. Also, CIS region produced around 1 million tonnes of crude steel. It has also indicated -- it's also indicates a decrease of around 0.5%. Finally, Turkish crude steel production for 2019 was 33.7 million tonnes, which indicates that, unfortunately, around 10% decline when compared with 2018 production.

In Page 6, you will see the price rise in steel-related commodities, which are, I think, as you already know, coking coal, iron ore and scrap. We started 2019 with around USD 200 price level on the Australia for the coking coal prices. This also can be considered as a benchmark for the coking coal. And during 2019, coking coal prices were on a downward trend, and we have seen lower than $140 in November. To date, we see just about $150 tonne levels. And the good thing is that most of the coal mines in Australia is far from the fire zones, and rain expectation in the coal producing regions are higher than rest of Australia. Therefore, wildfires in Australia didn't affect coking coal prices so much as there is no supply problem expected for those regions. We assume that coking coal prices will stay low due to fear of slowdown in China and global economy because of the trade sanctions and the coronavirus threat.

For iron ore, it's been a very volatile year as you already know. This is because of 2 reasons. As you all remember, iron ore prices spiked to $130 level from 70s after the dam accident happened in Vale's mine around same time this year. And we have seen actual effect of this event in the second quarter of 2019, and the average iron ore index for the third quarter was over $100 per tonne. As we estimated in our last investor presentation, average iron ore index was lower than $90 per tonne in the last quarter of 2019. And decline in iron ore prices also affected the pellet premiums, and pellet prices are also on a declining trend in the last quarter. It will -- it is still affecting our inventory costs also. So according to the latest reports about the iron ore, the iron ore expectation for 2020 is between $70 to $85 due to the fears of coronavirus and the effects to the -- its effects to the China steel production. Our estimation is that it could be around $70 to $80 range in 2020.

At the bottom of the slide, you will see the scrap prices, and we have seen about USD 300 level, again, during the last quarter of 2019. And now it goes back to 270s, again, and it's going lower. This is -- as we always mentioned, scrap prices are the -- are very important indicators -- early indicator for the steel price trends around our region.

In Page 7 and 8, you will see the production, consumption, export and import figures of Turkish steel market. At the beginning of the presentation, I have already mentioned that crude steel production was declined around 10%, and the total crude steel production in 2019 was 33.7 million tonnes. Then we look at the final steel production in those slides and the consumption. Also, these slides contains the imports of semi products, such as slab or coils. The decline in production and consumption is even higher than decline in crude steel production. Total finished steel production was declined 4.9 million tonnes, which means -- it is -- which means it's around 13% decline in the finished steel consumption. And total -- and the consumption was declined 4.7 million tonnes. It also indicates 15% decrease. As you can see from the chart, majority of decline comes from the long steel, which is directly related with construction business. There is no significant decline in the flat production and consumption figures in Turkish steel markets.

In Page 8, you can see that -- see export and import trends in Turkish steel market. In 2018, there was a significant increase in steel exports, mainly due to the slowdown in Turkish market. In the first half of 2019, Turkish steel exports continue to increase. And the second half -- in the second half, export volumes had declined when compared with the same period of 2018. At the end, there was no significant change in export volumes in 2019 when compared with 2018. However, steel imports have declined significantly in the first half of 2019 and started to recover, especially in the last quarter of 2019. But the recovery in the second half was not sufficient to go back to the 2018 level. And steel imports of Turkey have declined around 1.6 million tonnes. It is down around 12%. Decline in steel imports mainly related to the semi-finished products, as you can see from the slides, and there is no change in the imports of flat products.

So now let's take a look at the financial and operational metrics of 2019, and let's take a look at the financial metrics in Page 10. You'll see the brief summary of the annual results in this page. As of December 2019, we were able to produce around 8.8 million tonnes of liquid steel, which indicates approximately 6% decline in our production compared with the previous year. However, we were able to sell almost the same amount, around 8.3 million tonnes of finished products, which is around 100,000 tonnes less than 2018 sales. Our revenue have declined to USD 4.8 billion in 2019. In addition to decline to sales volume, average flat steel prices declined to 600 -- $60 level to 582 on average. And the average long prices declined to $490 level from $575 levels when compared the average prices of 2018. In addition to decline in revenue, our costs have also increased, mainly because of, as you already know, the iron ore prices. As a result of decrease in sales prices and increase in raw material prices, we were able to recognize less than $1 billion of EBITDA, which is $974 million, in 2019. It is actually around $550 million lower than 2018 EBITDA. As a result of decline in EBITDA, net profit for the year also declined. And we have end up with $585 million net profits for the year, which is almost half of previous year's net profit.

I will quickly skip Slide 11 and continue with the next slide.

In Page 12, you will find that our capacity utilization ratios and our capacity utilization was around 6% lower than last year's average. But we are still running with more than 90% capacity utilization, which is good. And one of the reasons for decline in the capacity utilization is not only the slowdown in the steel business. Also, we have 2 accidents in the blast furnaces in the third quarter and the fourth quarter. The first one was in the Eregli plant, and the second was Iskenderun plant, and we have lost around 400,000 tonnes of liquid steel. We have partially compensated this loss with the additional production, et cetera, but this is also another reason for lower capacity utilization than 2018.

So if you look at the finished goods production and sales volumes in Slide 13 and 14, you will see that the decline in production of hot and cold products have been compensated by inventory effect. Although we produced 440,000 tonnes less finished products. Sales in cold products have declined around 54,000 tonnes and hot product sales declined around 178,000 tonnes while long sales increased 138,000 tonnes, thanks to increasing long exports around 120,000 tonnes in 2019. Hot and cold products sales declined because of the low domestic demand and the limited export opportunity in the cold products due to country cut-offs applied by European Union.

In Page 15, you can find breakdown of revenue for domestic and export sales. More than 21% of revenue comes from exports, in line with the increase in export volume, which we will discuss in Page 17.

Now let's take a look at segmental breakdown of domestic sales in Page 16. We see significant change in our domestic sales in 2019. Although we were able to increase sales to pipe, profile, rolling and maintain sales volume in auto industry, our sales to distribution chains and general manufacturing industry are 400,000 tonnes lower than previous years due to slow demand in the domestic market. As we were able to divert these domestic sales to exports, we have reached approximately 100,000 tonnes lower sales volume in 2019. There is no significant change in our long sales, as you can see from the bottom of the slide. There is just a small increase. It is mainly because of the export sales of long products.

And in Page 17, you can see the historical export volumes. This year, in addition to flat exports, we were able to increase our long exports, as I already mentioned. And our flat product exports volume is 1.5 million tonnes while long product export volume is 219,000 tonnes. Total export volume is more than 20% of our total sales while it was around 19% in the same period of 2018. And because of the signs of recovery in the production in domestic market, we expect lower export volumes in the first quarter of 2020.

In Page 18, you will see the historical figures of EBITDA and the net profit. And I'm not going to mention about this slide, and I will skip to the next slide quickly.

And in Page 19, you will see the EBITDA to net profit bridge. Two things to mention in this bridge are the financial income and the tax expenses. I already mentioned about the foreign exchange gain from the dividend in our last conference call, but it's worth to remind you that there's one-off income coming from the dividend distribution. And we have realized foreign exchange income around $100 million because of the difference of accrual and the payment of dividend. And as we keep our books in U.S. dollar and pay dividends in Turkish lira, due to the timing of the accrual and the payment of dividends, we have recognized a significant amount of foreign exchange gain around $100 million in 2019. Second thing is the foreign exchange difference on the deferred tax expenses, which is $72 million. And as the foreign exchange was -- from deferred taxation was $36 million as of September 2019, it means that we have additionally recognized $36 million deferred tax expense coming from the deferred -- the foreign exchange of deferred taxation in the fourth quarter. So in total, we have recognized additional $72 million deferred tax expense just because of the depreciation of Turkish Lira.

In Slide 20, you can see EBITDA to cash bridge, and it's -- actually one of the most important things here is the change in the working capital. And there is the -- this is around $490 million from the working capital. And it is mainly coming from the decrease in trade receivables and inventories because of the declining steel and commodity prices. Also, we were able to increase the trade terms in -- with some of the suppliers, and there's also positive cash injection coming from the extension of the trade terms of the trade payments. As a result of USD 974 million EBITDA and the USD 490 million coming from the working capital injection, our cash balance increased $130 million, even after the huge dividend payment of $794 million.

Slide 21 represents the quarterly trend of EBITDA per tonne, and Q4 EBITDA per tonne was much lower than Q3, as expected, and we were only able to recognize $67 per tonne in the fourth quarter. Due to the declining steel prices -- actually, we have seen the worst month in December. And for a long time, it is the worst month in our financials. And we think that we have seen the bottom in December 2019. And starting from the January, the EBITDA per tonne figures will recover.

Let's take a look at the balance sheet numbers in Slide 22. We have explained the change in working capital and cash before. So the other significant change in the balance sheet is the provisions and other liabilities. As these liabilities are mainly in Turkish lira, there was a decline in provision and other liabilities because of the depreciation of Turkish lira. There is no significant change in the Turkish lira equivalent of those numbers. Actually, this is just the currency depreciation effect.

In Slide 23 and 24, you'll see the historical trend of financial borrowings and net cash. Although we have paid significant amount of dividend in the second half of 2019, we were still able to maintain net cash position of 5 -- of more than $500 million, thanks to cash inflow coming from the working capital. If there was no working capital injection, we will be around 0 net cash position.

Let's take a look at the Slide 25, the maturity profile of the borrowings. As you can see, there's no significant change in the maturity profile as we keep approximately $600 million in the short-term trade financing liabilities. You already know that we have started the new capital investment project. We will be financing those investments with the long-term loans, like the 2 plus 7, 2 plus 10-year period loans. And the banks have appetite for those bank facilities, bank loans, and this picture will change when we start to spend money for the investments. But you will see a much more balanced maturity profile. And after the new investments, we don't think that it will affect our cash flow projections and the dividend policy.

In next -- in Slide 26, you may see the cost of sales breakdown. And the percentage of our Turkish lira cost, such as labor, declined as Turkish lira depreciates during 2019. Also, percentage of iron ore and pellets increased during 2019 because of the peak in the iron ore prices in the first half of 2019.

So let's -- last 2 slides represent the historical CapEx spendings and the employee numbers, we have spend $251 million during 2019, which is the highest CapEx in the last 8 years. And as expected, CapEx will increase in line with new investment plans in the following years. As the last thing, there is no significant change in the number of employees. We are continuously decreasing number of employees because of the retirements. And there's just a small decline in the total number of employees, less than 200 people.

Now we may go -- continue with the Q&A session, and we'll be happy to answer your questions. Konstantin?

[Operator]

The first question is from the line of Shaw, Dan with Morgan Stanley.

[Dan Shaw, analyst]

I just had 2 for me. The first one on CapEx for this year. Can you just confirm what you're expecting in terms of your CapEx budget for this year?

And then the second question was just on the dividend as it relates to 2019. When will we -- or when will decision be made about what the distribution will be for that dividend?

[Avni Sönmezyildiz, executive]

Okay. Thank you, Dan. Let's start with the CapEx. We have already announced around $1 billion investment plan. And we should be finishing the blast furnaces in 2021, and we should -- we will be starting also new coking coal and the sinter investments. And they are going as we've planned. And you may assume that in 2020, you can see around $0.5 billion CapEx figures. And same -- it will be the same in the 2020 also, if everything goes as planned. And this also includes the sustainability investments, like the maintenance, et cetera, around $120 million.

And for dividend, it's not official yet. But normally, we have to finish the General Assembly till the end of March. And hopefully, we will be doing the General Assembly during the third or fourth week of March, and we will be announcing the dividend at that time. For the payment, we hope to declare the payment date, also in March, in line with the General Assembly.

[Operator]

The next question comes from the line of Jones, Andrew with Wood & Co.

[Andrew Jones, analyst]

Avni, I've got a few questions. First, just to clarify on the CapEx guidance. I think you said $600 million then $750 million in 2020 and 2021 on the last call. Now you're saying about $0.5 million -- or $500 million in each of those years. I just wanted you to just clarify what's changed since the last quarter.

Secondly, can we just have a bit of guidance on your expectations for the first quarter and this year. Obviously, prices have gone up. Costs probably moderated as -- a bit of a lag so you'll be getting fourth quarter iron ore or coal prices. Could you give us an idea for approximate, sort of EBITDA per tonne margin you would expect for the first quarter?

And just finally, on the carbon taxes. The European Union's obviously talking about imposing taxes on carbon for steel imports. Details aren't fully understood at this point. But what is your understanding about what is being proposed? And what sort of impact are you estimating that could have on your business based upon your current understanding of the proposals?

[Avni Sönmezyildiz, executive]

Yes. Andrew, you are right. We were mentioning about $600 million levels, but these are the ballpark figures. And it's -- for us, it's very hard to estimate the monthly or quarterly spendings. It's not just because of you. It's because of the vendor, the construction process, et cetera. And we are expecting -- actually, we should be -- we said that the new blast furnaces will be in operation until May 2021. And I'm telling you $500 million because it might be some delays that we cannot estimate right now. So you can either use $500 million/$400 million or $500 million/$500 million. To be honest, we really cannot really estimate what could be because the construction takes too much time. So right now, you can take $500 million/$500 million, it looks like a more reasonable CapEx for the long run, for 2 years.

For Q1 expectations, there has been a recovery in the steel prices, around $40, $50, although they are now going back. Today, we already know what could happen in the first quarter. And so considering that this $40, $50 increase in the steel prices happened in the last quarter, you may assume that it could increase our EBITDA per ton around these levels. So we hope that we could reach, again, $100 levels in the first quarter. And...

[Andrew Jones, analyst]

You don't expect any offsetting factor from higher costs after -- with iron ore having gone up or, given the lag effect, you expect costs to be fairly similar quarter-on-quarter.

[Avni Sönmezyildiz, executive]

The -- actually, we don't expect significant change in our costs from December to January. Of course, we don't know what will happen for the quarter because the iron ore prices are calculated based on the average of the quarter. It's not over yet. But with the current estimations, with the current prices, we don't expect significant change in our cost. And the effect to EBITDA will come from the sales prices, the HRC prices, which is around $40, $50. So we hopefully -- we hope to see around $100 levels.

For carbon taxes, it's a big debate for us. We have a factory in Romania, and they will be utilizing the carbon taxes starting from this year. For our -- in our Iskenderun and Eregli facilities, it's -- for now, it's not a big concern for domestic market. But if the -- if they apply the same regulation in European Union in Turkey, so it could it affect our costs significantly. It's -- for like the -- like all other steel companies in Europe or all over the world. So we have been working on that, and we hope to issue the first integrated report this year's until the General Assembly. And you will be -- you will find much more detailed information about the carbon emissions and the environmental liabilities on those -- on the integrated report. And we hope -- we know it is very important for most of the investors right now. And we are hearing so many things about the investors and the analysts about this environmental liabilities and the regulations, and we will be much more transparent on that starting from 2020.

[Andrew Jones, analyst]

Okay. But I mean do you have any rough idea about, if the same sort of taxes could be applied in Turkey as in the EU, what impact that would be and also dollar per tonne basis? Do you have any sort of...

[Avni Sönmezyildiz, executive]

I have an idea, but I cannot be declare it. Sorry.

[Operator]

The next question is from the line of Jones, Andrew with Wood & Co.

[Andrew Jones, analyst]

Sorry. As there was no one else asking questions, I might as well. I ended up winning. Just on your expectations for volumes. I think last time we were talking about it, you were looking at a moderate improvement in volumes in 2020 driven by a bit of a domestic recovery. I mean do you have any -- given current data and what you're seeing at the moment, do you -- what are your expectations for volumes in 2020?

[Avni Sönmezyildiz, executive]

Sure. I will tell you the same thing as our CEO, Mr. Toker Ozcan, said in the analyst call today that we held. He said that, actually, we will be -- we will challenge more than 8.8 million tonnes for 2020. And it says -- he says it's achievable for us.

[Andrew Jones, analyst]

Where's the growth going to come from? Is that -- I mean are you expecting that bigger pickup in the domestic market? Or are you...

[Avni Sönmezyildiz, executive]

We expect recovery in the domestic market because there was a huge decline in the steel consumption and the production, and we think that there will be a recovery in Turkish market. And this will help us. Also, as I already mentioned, we have lost liquid steel production because of the 2 accidents, unplanned maintenance activities. And if such case, doesn’t happen again in 2020, it is achievable. That was around -- I mean around 300 -- 250,000 and 300,000 tonnes of liquid steel just because of those accidents. Normally, we have market to sell that, but we were not able to produce those liquid steel, unfortunately.

[Andrew Jones, analyst]

Okay. That's encouraging. So 8.8 million tonnes, you think that's achievable this year, okay. Cool. Okay, That's great.

[Operator]

So the next question is from the line from Gülsever, Muharrem with Kona Capital.

[Muharrem Gülsever;Kona Capital Advisors;Partner, analyst]

I have a follow-up question post this -- the meeting today you held. The CEO mentioned the potential project coming in the next month for the prospective iron ore mine. I remember that in 2013, the total investment mentioned was around $850 million. Is it still relevant? Or should we make a revision on this project?

[Avni Sönmezyildiz, executive]

Yes. I mean it's worth to mention that our CEO, Mr. Ozcan, said that we could be announcing new projects soon. We are about to finish the feasibility studies, and you will be hearing from us regarding the expansion of the iron ore mine, et cetera.

Yes, you are right. It was -- we are always telling the investors that about $100 per tonne for iron ore price is the benchmark for the feasibility of the current iron ore mine. But more -- things have changed, and the Turkish lira depreciated that much -- so much since that date and the -- all the U.S. dollar numbers have changed because the cost of mine is mainly the labor and the Turkish lira costs. So things have changed. So the $100 per tonne estimation is not reliable with the current Turkish lira currency, Turkish lira/dollar currency.

[Operator]

The next question is from the line -- it's a follow-up question from the line of Jones, Andrew with Wood & Co.

[Andrew Jones, analyst]

Avni, sorry. Obviously, I was not [indiscernible] call. Could you give us an idea as about what the details of this iron ore project potentially could be, what sort of production levels would be targeted, what sort of ballpark costs you could achieve there? And did you say $750 million of potential CapEx for that on top of your previous announcements? Could you...

[Avni Sönmezyildiz, executive]

It's not included to the current CapEx plan. And actually, it's not approved by the Board yet. So it's very -- it's early to mention about that. We are just making some studies on that. So I cannot mention any number for the CapEx, actually, Andy. So if -- when we -- if it's approved by the Board or -- and everything is overviewed, we'll be announcing through the public announcement platform. Right now, I cannot comment on that.

[Andrew Jones, analyst]

Okay. But where does this $750 million come from? Or was it a figure that you -- that my colleague just mentioned?

[Avni Sönmezyildiz, executive]

What's -- what $750 million?

[Andrew Jones, analyst]

The -- so I just heard -- I think the other caller just mentioned $750 million as a CapEx figure, I think.

[Avni Sönmezyildiz, executive]

He did not mention that number in the today's meeting, actually. If someone's told that, but it's not from our team. We didn't announce such number.

[Operator]

Ladies and gentlemen, there are no further questions at this time. I will now turn the conference over to Mr. Avni Sönmezyildiz for any closing comments. Thank you.

[Avni Sönmezyildiz, executive]

Thanks for joining our year-end investor presentation. And we hope to see you in the announcement of the first quarter results, most probably at the end of April. Thanks to you all, and have a good night, and have a nice day for the colleagues in United States. Thank you.