Turkiye Petrol Rafinerileri AS

IST:TUPRS.E

Earnings Call Transcript 2020-Q1

[Operator]

Ladies and gentlemen, thank you for standing by. I am Gail, your Chorus Call operator. Welcome, and thank you for joining the Tüpras conference call to present and discuss the first quarter 2020 financial results.

At this time, I would like to turn the conference over to Mr. Dogan Korkmaz, CFO; and Mr. Levent Bayar, Head of Investor Relations. Mr. Bayar, you may now proceed.

[Levent Bayar, executive]

Hi, everyone. Good evening to all from Tüpras headquarters, and welcome to our teleconference. We hope you and your families are all safe during these challenging times.

I am Levent Bayar, Head of Investor Relations. I am here with Dogan Korkmaz, CFO; and team members from Tüpras Investor Relations and supporting departments. Over the next hour, we will first go over our operational and financial results for the first quarter of 2020, then we will continue with the Q&A session.

I'll draw your attention to our cautionary statement. During today's presentation, we will make forward-looking statements that refer to our estimates, plans and expectations. Actual results and outcomes could differ materially. Please refer to our financial reports and material disclosures for more details. These documents are available on our website.

In the next 2 slides, we will provide you with a brief summary of the key highlights regarding the first quarter of 2020, and we will go into detail for each subject on the following slides.

We will begin with an overview of the market environment during the first quarter of 2020. We covered this section in 2 main components: the developments in global oil markets and developments in Turkish market.

Let's start with the top-left box. During the first quarter of 2020, with IMO 2020 implementation kicking off, high-sulfur fuel oil and crack margins decreased by almost $10 per barrel with respect to first quarter of 2019. On the other hand, the expected IMO 2020 impact on the mid-distillates was largely offset by the global demand weakness.

Moreover, the worldwide outbreak of the COVID-19 led to a severe drop in global aviation activity, especially towards the end of the quarter. As a result, jet and diesel crack margins contracted by $6 and $4 per barrel, respectively, compared to the first quarter of 2019.

Gasoline cracks were stronger compared to previous year's first quarter. However, one should remember that first quarter 2019 was a low base for gasoline.

In numbers, diesel and jet fuel cracks were down by $4.1 and $5.7 per barrel, respectively, compared to the previous year's same period. Despite its improving trend compared to the fourth quarter of '19, high-sulfur fuel oil was the worst performer among all and decreased by $9.7 per barrel with respect to first quarter of 2019. Gasoline cracks were up by $2.4 per barrel.

In the top-right box, we see Brent price development which had an unprecedented drop in the first quarter of 2020. As the COVID-19 outbreak has started spreading rapidly all across the globe, the mobility has become constrained due to containment measures. As a result, the expectation on demand outlook for transportation fuels, especially for jet and gasoline, started to deteriorate considerably.

In addition to this weak demand profile, the OPEC+ meeting on March 5 did not only end without an agreement on further production cuts, but on the contrary, was followed by the announcements from Saudi and Russian oil producers indicated increased production as of April. In the light of this unprecedented outcome, stressing supply/demand imbalance even further, Brent price experienced a historically sharp decline. The drop materialized from $66.1 per barrel at the beginning of the quarter to $17.7 per barrel at the end.

Now taking a look at the bottom row, Turkish market. Bottom-left part shows U.S. dollars versus Turkish lira in the first quarter of 2020, showing the Turkish lira depreciation trend that seems to be accelerating towards the end of the quarter, thus summing up to TRY 0.56 depreciation during the whole quarter.

Finally, we do have the Turkish fuel market data for the first 2 months. Diesel demand, which has started to recover in the second half of the last year, had a robust beginning in this year with a 7.7% growth in the first 2 months. This progress can be attributed to relatively improved economic activity, followed by sequential rate cuts and overall normalization in late 2019.

On the jet fuel side, we see that the growth in consumption remains flat year-over-year in the first 2 months. Gasoline demand has increased by 7.3% in the first 2 months of 2020 compared to last year's same period.

Fuel oil demand, which seems to be the only one contracting among the 4 main products, was affected primarily by IMO 2020 implementation. However, as opposed to this slumping demand for fuel oil compared to last -- Q1 last year, bitumen consumption was sound on the back of the increased infrastructure-related construction activity.

We would like to highlight that in the first 2 months, COVID-19 did not have a material impact in Turkish market. Therefore, we might begin seeing contraction in fuel demand, starting with March data. However, even under such a weakening case, logistics and transportation consumption remains intact.

Now let's take a look at the highlights of the quarter for Tüpras. Here, we will continue with Tüpras highlights for the first quarter of 2020. The Brent price developments we have discussed over the previous slide played a major role in the weak first quarter 2020 performance. The chart on the left visualize the inventory impact at the Brent price movement within each quarter on a Turkish lira basis. As it can be seen from the chart, the Brent price movement drives the direction and the magnitude of the inventory impact.

This quarter was no exception to this long-term fundamental trend of this industry. Hence, any recovery in the Brent price would also reflect to Tüpras looking forward in this year.

Around 50% of our inventory is naturally hedged with future fuel pricing. The remaining part is exposed to spot price changes, such as the drop in the first quarter.

In the second area, we have global freight rates increasing as a result of increasing demand for floating storage for vessels. As you can see from the chart in the middle, with this impact, CIF-FOB spread remains widened. This outcome has supported our competitiveness against importers while also improving our inland premiums and core refining spread.

The last chart on the right-hand side, we have an indicative simple average of main regional heavy crude oil price differentials against Brent. As you can see, the discount on heavy crude differentials started to widen as refiners, especially simple ones, began switching to lighter grades in order to reduce their black product yield. This trend was initiated with IMO 2020 preparations in the fourth quarter of 2019. This is obviously before even further widening from Saudi price differentials before the final OPEC+ meeting.

Now let's summarize the key figures from the first quarter of 2020. We have produced around 6 million tons of total crude and other feedstock, sold about 6.2 million tons of refined products and ended up with around negative TRY 1.3 billion of EBITDA.

Now let's take a look at the crude oil and refining market development on the following 2 slides. Following our fourth quarter 2019 teleconference on February 12, the COVID outbreak eventually evolved into a global phenomenon. It has become a serious challenge for various sectors by constraining mobility all across the world as a result of containment measures. Global aviation activity muted with the cancellation of almost all of international flights and a significant reduction in the inland flights. Road transportation activity has also suffered its share on the back of voluntary and enforced lockdowns all around the world.

Following this introduction, let's take a look at the individual cracks and their performance against last year's first quarter. Diesel cracks were down by $4.1 per barrel compared to last year's first quarter and averaged at $11.3 per barrel in the first quarter of 2020. In the first half of the quarter, diesel demand was mainly restrained by the milder weather conditions compared to seasonal norms in Asia and Europe, combined with ongoing concerns on global economic activity.

Consequently, both supply and demand drivers have largely offset the longer-rated IMO 2020 post expected for diesel. However, on the positive side, diesel still remains somewhat resilient as the COVID-19 outbreak has spread over the globe. The main reason for that is diesel is mainly consumed in heavy duty transportation and logistics, which seems less impacted compared to other mobility globally. In addition, diesel demand was supported further by contango opportunities due to product's relative suitability for long-term storage compared to others.

Beyond first quarter 2020, diesel crack margins remained mostly resilient in April as well, averaging at $9.7 per barrel. However, as storage units have been nearing full utilization in May, diesel cracks also began showing weakness and has been averaging around $6 to $7 per barrel on a daily basis in May.

Jet fuel cracks averaged at $8.1 per barrel in the first quarter of 2020 and posted an approximately $5.7 per barrel decline compared to first quarter of 2019. Jet crack margin started the year at $10.4 per barrel in January, below 5-year average of $11.5 per barrel.

Severe drop in global aviation activity due to COVID-19 led to a further drop in the jet crack margin, leading to an average of $5.8 per barrel in March. With virtually no consumption in April, jet crack margin moved down to negative territory, averaging at minus $1.7 per barrel. Despite announcements indicating that we would be seeing flights resuming in June, jet cracks still roam around negative $4 to $5 per barrel on a daily basis in May.

Gasoline cracks were up by $2.4 per barrel compared to last year's same period and averaged at $6.9 per barrel in the first quarter of 2020. Gasoline crack margins started 2020 with an improvement in the first 2 months compared to last year. This was mainly because of the weak pace of first quarter of 2019 as well as FCC utilization to produce very low sulfur fuel oil and passenger car demand driven by milder winter conditions in 2020.

However, with the eventual spread of COVID-19 in North America, March has become a turning point. As the lockdown measures were put in place, gasoline crack margin, on average, came from $9.8 per barrel in February to $3.3 per barrel in March. With the increased pressure in mobility, gasoline cracks has seen a negative figures for several days. After averaging at $2.4 per barrel in April, gasoline crack margin has been holding around similar levels on a daily basis in May.

High-sulfur fuel oil cracks averaged around minus $15.5 per barrel in the first quarter of 2020, decreased by around $9.7 per barrel compared to the last year's same period. This was on the back of IMO 2020-driven demand decrease, yet this level indicates a remarkable quarter-over-quarter improvement with respect to fourth quarter of '19, during which HSFO cracks averaged at minus $28.9 per barrel.

There were several factors behind the strengthening trend, including lower high-sulfur fuel oil supply with simple refiners and lighter crude feedstock and competitive price advantage in terms of dollars per calorie against natural gas and coal used for power generation as crude oil price was significantly lower. This ascending trend has also been going on in the second quarter so far. High-sulfur fuel oil crack margin has averaged at minus $4.8 per barrel in April, which is above the 5-year maximum and has been floating around negative $6 to $7 per barrel on a daily basis in May.

Moving over to the crude price differentials. Heavy crude differentials continue to widen in this quarter as well. In the first quarter of 2020, on a simple average basis, heavy crude price differentials to Brent were wider by around $1.7 per barrel with respect to previous quarter. This improving trend was realized mainly on the back of higher supply against weaker demand and slate decisions influenced by IMO 2020. Simple refineries started switching to lighter grades in order to reduce their black product yield and limit negative impact from weakened high-sulfur fuel oil crack margins.

Even though the impact for the first quarter was limited, the COVID-19 was also another factor affecting heavy crude price differentials. Essentially, it has disrupted the demand side and has eventually triggered a set of supply-side reactions, which initially led to a higher volatility.

The unsuccessful meeting of the OPEC+ on the March 5 ended without an agreement on further production cuts and resulted in a sharp drop in Brent prices. After Saudi Arabia increasing production along with handsome OSP discounts, other major heavy crude suppliers in the region have also declared similar actions, leading to a widening in differentials.

Looking forward, we continue to believe the outlook for heavy differentials will be set in accordance with level of global demand recovery as well as supply cut decisions by the main suppliers.

Now let's take a look at Tüpras operations, starting with production volumes. On the left-hand side graph, you can see our production numbers. Our total production in the first quarter was around 6 million tons. The main reason for the year-over-year drop was the proactive planning for storage management.

In the first quarter 2020, our total crude utilization was 79%, and other feedstock capacity utilization was 6%, reaching to 85% for the whole system. Despite lower production, our white yield was quite high at 85.6% in the first quarter of 2020, increasing share of more profitable products in the total output.

Moving over to the sales. We generated total sales of 6.2 million tons in the first quarter of 2020. We have reduced our imports and focused on sales from our own production. As a result, our domestic sales showed a decline compared to last year at around 0.6 million tons.

Now let's move to the financials. Starting with the refining margin developments on this slide. During the first quarter of 2020, Mediterranean refining margin decreased by $1.8 per barrel compared to first quarter of 2019 and settled at $1.8 per barrel. While Ural-Brent differentials were wider in the first quarter of 2020, weakness in high-sulfur fuel oil and jet cracks resulted in weaker Med margins.

Tüpras net refining margin was materialized at $1.2 per barrel in the first quarter of 2020. The decline compared to last year's same period was mainly due to around $2.7 per barrel negative inventory impact compared to first quarter of 2019. And cracks were also weaker at around $0.1 per barrel compared to first quarter of 2019.

Now let's take a look at the P&L items for the first quarter of 2020. Our revenues decreased by 18% to around TRY 17 billion. This was mostly on the back of 21% decrease in Brent price and 15% decrease in sales volumes. 14% of depreciation of Turkish lira versus last year's first quarter, on average, compensated some portion of the drop. Similarly, our cost of goods sold also dropped by 10% with decrease in Brent price. Due to sharper drop in revenues as a result of inventory loss stemming from the sharp decline in Brent price, our gross profit materialized at minus TRY 909 million.

Our operational expenses increased by 23%, mainly due to Turkish lira depreciation compared to first quarter of 2019, inflation adjustments to lira-based costs and elevated energy expenses. Due to Turkish lira depreciation around TRY 0.58, the loss from other operations materialized at TRY 349 million, which is slightly below TRY 390 million figure of first quarter of 2019.

Despite higher depreciation in Turkish lira, due to storage optimizations that we have implemented, we have incurred lower losses here in the first quarter of 2020. We have recorded TRY 168 million of loss from equity investments, i.e., OpEx due to provisions related to Competition Board fine enacted to the company. OPEC will appeal to this fine once it receives detailed ruling.

Our net financial expenses increased by 52% compared to first quarter of 2019. Our net interest expenses decreased by 57%, with higher Turkish lira positioning in our cash balance, but we had more FX expenses due to higher Turkish lira depreciation. As you can observe from the table, we have observed negative TRY 2.8 billion of profit before tax in the first quarter of 2020.

Below profit before tax, we have tax loss carryforward, which contributed positively to our numbers, which is taxed to be excluded from the future earnings. With this positive impact, our bottom line materialized at minus TRY 2.3 billion for the first quarter of 2020.

Now for EBITDA. Our reported EBITDA materialized as minus TRY 1.291 billion in the first quarter of 2020. We have recorded about TRY 2 billion net of inventory effect due to the sharp fall in Brent price, particularly in March. When we deduct this inventory loss from the reported EBITDA, we reached TRY 725 million of clean EBITDA or EBITDA CCS in the first quarter of 2020, which is 33% above of last year's same period.

Now let's take a look at the profit before tax bridge. As you can see, the decline in profit before tax over the first quarter of 2019 was mainly driven by inventory loss that we have incurred in Q1 this year. Other factors mainly consist of higher OpEx around TRY 85 million due to Turkish lira depreciation, inflation adjustments in lira-based OpEx cycle and elevated energy expenses. Slightly worse differential impact was mainly due to change in locally sourced crude pricing and Iran crude was available only in the first quarter of 2019. All in all, the first quarter of 2020 profit before taxes materialized as negative minus TRY 2.798 billion.

Now let's take a look at the financial highlights. Our EBITDA was realized as minus TRY 1.3 billion in the first quarter of 2020. We have a net loss of minus TRY 2.265 billion in the first quarter of 2020. With this weak reported EBITDA, net debt-to-EBITDA ratio climbed from -- climbed to 6.4 from 2.1 in the fourth quarter of 2019. However, we would like to remind you that inventory impact is an unpredictable and material part of refining business. If we were to take a look at the net debt to rolling EBITDA CCS, it registered at 3x, indicating that our core operational profitability still matches a sizable amount of net debt position. And finally, due to negative bottom line, our rolling return on equity materialized at minus 12%.

Let's continue with the details of our balance sheet. Let's take a look at the top line first. Our cash and cash equivalents and financial liabilities at the end of the first quarter of 2020 was TRY 11 billion and TRY 23.2 billion, respectively. Net debt is at TRY 12.2 billion as of the end of first quarter of 2020.

Due to the nature of the business, it is normal to see fluctuations in net debt from time to time. In addition, due to lower swaps that we have employed, a bigger amount of funding is shown in net debt in the first quarter of 2020.

As you may see from the redemption schedule, the majority of our short-term debt is in Turkish lira terms. As of April, we have acted proactively and rolled over a sizable amount of our existing short-term Turkish lira borrowings with lower interest rates.

On the bottom left, working capital requirements stood at a negative TRY 2 billion, slightly deteriorating compared to fourth quarter of '19. This was mainly because of the sharp drop in Brent price, reducing our inventory and payable levels. There are no material changes to our payable and receivable days as of the end of the first quarter 2020.

Let's move to our FX exposure management slide. Regarding our FX exposure management policy, due to storage optimization and drop in Brent prices, our inventory amount dropped to USD 826 million from USD 1.5 billion at the end of the fourth quarter of 2019. This has also resulted in lower payables amount and lower forwards accordingly.

Following the drop in inventory amount, we have implemented necessary actions swiftly to ensure disciplined approach to FX position management. Our policy to keep a close position at period end have not been changed.

Let's compare the current status of the development against the expectations for 2020. We have a net refining margin target of $3 to $4 per barrel in 2020 full year. First quarter performance is below that at $1.2 per barrel, but there is $2.7 per barrel negative inventory impacting it, indicating that it could be reversed if Brent improves.

Net refining margin was at $1.8 per barrel in the first quarter of 2020, in line with our guidance range of $1 to $2 per barrel. Our capacity utilization was 84.6% for the first quarter of 2020, in line with our full year guidance range of 80% to 85%.

We have produced 6 million tons and sold 6.2 million tons in the first quarter of 2020 against our full year guidance of about 24 million tons of production and about 25 million tons of sales. Our refining-only CapEx target is about USD 125 million for 2020, whereas we spent USD 29 million for refining investments in the first quarter. Our consolidated CapEx has materialized at USD 52 million in the first quarter, which includes our investments in our railway and shipping subsidiaries.

Now taking a look at the maintenance calendar for 2020, you will see some updates. We have successfully completed all the maintenance activities scheduled for the first quarter. As you know, we have disclosed that our Izmir refinery was going to be temporarily shut down until July 1 due to the decline in demand. Our maintenance team is using this shutdown in Izmir as an opportunity to carry out some intermediary maintenance activity. These intermediary maintenance actions allowed us to postpone some of these periodic maintenance activities planned for the fourth quarter of 2020.

With the completions and postponements, the only major maintenance activity planned for the rest of the year remains to be in the fourth quarter scheduled for the U-4000 FCC unit in Izmir. We would like to remind that we are providing the table with details in order to increase awareness and provide further information. Given the ongoing uncertainties related to COVID-19, there could be shifts in our maintenance schedule.

Now finally on this slide, we have our 2020 expectations. As you may recall, we have revised our 2020 expectations about a month ago due to sudden changes in the market following COVID-19 outbreak, reaching a global scale.

Let's take a look at the details of our revised estimates for 2020. We expect Med complex refining margin to remain in the range of $1 to $2 per barrel in 2020. We expect Ural brand to be better compared to 2019, but jet fuel and gasoline cracks to remain weak. We expect Tüpras net refining margin to materialize in the range of $3 to $4 per barrel in 2020. The underlying assumptions are weak outlook for jet fuel and gasoline cracks, resilient diesel and strong HSFO cracks, heavy crude differentials to widen compared to 2019. We will also recover the inventory loss of Q1 as much as Brent recovers in the rest of the year. We expect that about 24 million tons of production and at about 25 million tons of sales, reaching to 80% to 85% capacity utilization for the whole year. For CapEx, we target about USD 125 million refining-only CapEx for 2020.

Before we conclude, we would like to remind that our core assumption for these expectations are to see that COVID-19 negative impact on crude oil and petroleum products demand will begin to decrease by June and normal economic activity will resume starting from August.

Thank you for listening to me.