Turkiye Petrol Rafinerileri AS

IST:TUPRS.E

Earnings Call Transcript 2019-Q2

[Operator]

Ladies and gentlemen, welcome to Tupras' First Half 2019 Conference Call and Webcast.

I will now hand you over to Mr. Levent Bayar, Head of Investor Relations. Sir, please go ahead.

[Levent Bayar, executive]

Hi, everyone. I hope you all enjoyed the video, which is a fresh take on our Izmit refinery, following the completion of RUP maintenance. We are now fully ready for upcoming IMO 2020 regulation, which will be effective in less than 6 months.

Good evening to all from Tüpras headquarter, and welcome to our teleconference for the second quarter of 2019. I am Levent Bayar, Head of Investor Relations. I am here with Dogan Korkmaz, CFO; and team members from Tüpras' Investor Relations and reporting departments. Over the next hour, we will first go over our operational and financial results for the second quarter of 2019; then we will continue with the Q&A session.

I'll now 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 second quarter of 2019, and we'll go into detail for each subject on the following slides.

So let's start with Tüpras' highlights for the second quarter of 2019. As we have disclosed at the beginning of the year, we were undertaking significant maintenance in RUP in order to keep our units up to date and position us for the upcoming IMO 2020 regulatory change. We have successfully managed the process. The whole project was a quite complicated improvement and maintenance effort, which included catalyst change, which was around 1,500 tons of chemical catalysts, nearly half of all Tüpras inventory and all equipment inspections, which is again 2,000 [ set up ] equipment, 7,500 instrumentation and electrical equipment and 140 processing equipment in total.

During the maintenance, over 1.5 million worker hours, 2,750 personnels worked on the site on the peak days. The maintenance was also successful for health and safety measures. No lost-time injuries happened during the maintenance activities, several improvement projects, including maintenance and replacement of problematic equipment were completed.

These projects will maximize the reliability of the RUP complex in the upcoming years. As a result of careful planning and high concentration, we have completed the maintenance 14 days earlier than the planned completion date. Therefore, all of our units, safely started production at full capacity on the 13th of May.

Second improved -- important development was the continuation of improvements in working capital requirement of the company. On top of TRY 3.1 billion dropped in the first quarter, TRY 2.4 billion decreased achieved in the second quarter. Accordingly, working capital requirement of Tüpras improved by around TRY 5.5 billion in the first half of 2019. Increase in trade payable base and of course, tight balance sheet management, were the main reasons behind its improvement.

As we have disclosed last year, establishment of our London trading unit to cash trade in U.K. is complete, and the office is fully operational. We have been transferring our export activities to the U.K. office in order to achieve better integration with global energy markets and trade routes. In addition to Tüpras trading U.K., we have established necessary infrastructure for bitumen exports. These developments will further enhance our position in IMO 2020 era, as we are now developing new ways to optimize our black product sales. During first half of this year, we have exported around 250,000 tons of asphalt to the different parts of the world.

Finally, we would like to sum up what we have achieved in the second quarter of this year in numbers. We have produced 6.9 million tons of total crude and other feedstock, sold about 7.1 million tons of refined products and generated TRY 1.5 billion of EBITDA.

Now let's take a look at global oil and Turkish market development in the second quarter of 2019. On this slide, we will provide you an overview of the market environment during the second quarter of 2019. We divided this section into two main areas as developments in global oil markets and developments in Turkish market.

Let's start to pick up left box. In the second quarter of 2019, main 3 product cracks on the platform compared to same period of last year. Middle distilled cracks were below historical average. Overall gasoline crack recovered from the very low levels of the first quarter of this year. They did not exceed second quarter of last year, which was the same period. Only fuel oil cracks -- high sulfur fuel oil cracks performed better with respect to the same period over the last year. We will take a closer look at the reasons in the next few slides.

In numbers, diesel, jet fuel and gasoline cracks were lower by 12%, 22% and 18%, respectively. On the other hand, high sulfur fuel oil cracks were higher by 20% compared to last year's same period. However, July cracks has been showing significant improvement, mostly on the back of high season demand and unexpected supply disruptions, supported product prices in the first month of the second half. In the top right bar, we see Brent price development in the second quarter of this year.

Crude price followed a significant upward trend in April, May, and posted an approximately USD 5 per barrel growth. The upward momentum has ended in June due to concerns on potential slowdown in global economic activity, led by trade-related and political disputes. But contraction in June did not change the overall trend for the quarter, and quarterly average of Brent price posted a 9% increase compared to the first quarter of this year. As we have discussed in the previous quarters, the overall upward trend has resulted in inventory gains for Tüpras.

Now taking a look at the bottom row, the Turkish market. Bottom left box shows U.S. dollars versus Turkish lira in the second quarter, showing about TRY 0.13 depreciation during the quarter. As you may recall, Turkish lira depreciation creates an immediate foreign exchange loss in our P&L, which is clawed back in the following months with a monthly gain. This effect, being mostly contained in the quarter, has been a limited impact on our P&L in the second quarter of 2019.

Finally, we do have the Turkish fuel market data for the first 5 months. This indicates about 7.4% contraction in diesel and around 3% growth in the jet fuel consumption. Diesel consumption drop can be attributed to a slowdown in Turkish economic activity while jet demand remained steady with healthy aviation market.

Now let's take a look at the crude oil and refining market highlights on the following 2 slides. As you know, with the completion of usual maintenance activities in the second quarter, refineries globally started operating at full capacity utilization. This dynamic creates a supply increase and negatively affects crack margins in general. Compared to the second quarter of 2018, diesel cracks put a brake an average at $12.2 per barrel in this quarter. Compared to second quarter of 2018, they are down by around 12%. This was mainly due to slowdown in economic activity and increase in product flows from Asia and United States to the Europe. New refining capacities in China negatively impacted cracks in a low-demand environment as well. However, starting from the second half of June diesel cracks have been gaining back their strength, with improvement on demand side. To put them into numbers, July average for diesel was USD 14.1 per barrel.

Moreover, we would like to highlight one point at this stage. We observed from the market that maritime shipping sector has yet to start buying diesel and marine gas oil to comply with the upcoming IMO regulation. Hence, we believe that second quarter and July diesel cracks did not reflect the positive impact of this regulatory change. We continue to expect to see a positive impact on diesel cracks in the coming months. Jet fuel cracks posted an approximately 22% decline in the second quarter of 2019. High Asian exports to Europe due to lower Asian aviation demand was the main reason behind the drop. An important point to note here is that jet cracks have started to improve even better than diesel with the beginning of the tourism season, and averaged around $14.8 per barrel during July. Gasoline cracks declined by 18% in the second quarter of 2019. Compared to last year's same period. Increase in shale gas processing led to significant growth in gasoline yields globally.

In addition to that, lower NAFTA demand due to decreased petrochemical-driven consumption, made gasoline supply abundant. Those developments kept gasoline cracks in $10.5 per barrel in the second quarter. However, with the beginning of the drying season and unexpected production disruptions in Philadelphia and Europe has supported gasoline cracks since second half of June. July gasoline cracks were at USD 14.7 per barrel, i.e., caught up with the previous year's performance.

Finally, high sulfur fuel oil cracks increased by around 12% compared to second quarter of last year. This was mainly driven by limited heavy crude availability post Iran sanctions, limitations on Venezuelan exports and OPEC+ cuts decision. In addition to that, mid-fuel oil fuel conversion in Asia and Middle East caused lower high sulfur fuel oil availability. In June, besides supply limitation, fuel oil cracks were also supported by Middle Eastern demand from power plants. July continues this trend then cracks averaged around $6.9 per barrel.

Moving over to the crude price differentials. As you can see from the graph, narrowing trend of the financials continued in the second quarter of this year. Simple average of listed differentials has been advancing against the profitability of complex refinery since the third quarter of 2018. As we have mentioned several times before, OPEC+ cuts, Iran sanctions and limitations on Venezuelan supply are the main reasons behind this development. And as a result of this, group financials narrowed by USD 2 to USD 3 per barrel in the second quarter of 2019 compared to the same period of the last year.

On the other hand, beginning from the second half of June, Ural and CPC differentials both vital due to ample oil supplies in the European market coming in from the United States, Libya and Nigeria. On top of that, the full resolution of Russia's organic chloride issue is now only expected by the middle of 2020 at the earliest, which has a negative impact on oil differentials. Due to the benchmark role of Ural, Arab and Iraqi crudes are following and slightly widened compared to the second quarter of 2019. In addition to this, we observed some IMO 2020-related crude oil procurement in the market. Looking forward, we continue to believe the outlook for heavy differentials will be set in accordance with level of heavy crude supply as well as IMO 2020-related crude slate decisions.

Now let's move on to our operations. Starting with capacity utilization. We would like to remind that nameplate capacity of our refineries have been increased from 28.1 million tons to 30 million tons in 2019. Hence, this year's capacity translation calculation is based on the upgraded amount. On the other hand, all these product utilization levels based on our previous capacity numbers, 28.1 million tons.

In light of these developments, in the second quarter of 2019, our total crude and other feedstock capacity utilization was realized at 96.5%. Despite good maintenance, with the help of smooth operations in the rest of our refineries, we maintained high capacity utilization numbers. 96.5% capacity utilization was an improvement over both first quarter of this year and last year's second quarter.

On the left-hand side graph, you can see our production numbers. Our production in the second quarter was 6.9 million tons, which is 700,000 tons higher than last year's same period. As you know, we had announced our maintenance schedule at the end of last year, and since we are on track, we are actualizing our full year production and capacity utilization target.

Moving over to the sales. Let's start with the chart on the left-hand side. We generated total sales of 7.1 million tons in the second quarter of 2019. Our exports more than doubled in the second quarter, mainly driven by fuel oil. According to our maintenance scenarios, we were expecting to export even more fuel oil. However, with the early start of RUP, fuel oil exports were realized less than planned.

Taking a look at the domestic sales on the left -- right-hand side, although we continue to sell our production, RUP maintenance led to a decrease in diesel and jet production, and this has resulted in a decline in domestic diesel and jet fuel sales. Domestic gasoline sales were flat compared to the second quarter of 2018. Completion of some big ticket infrastructure projects and slowing down construction activity led to a decline in domestic asphalt demand. As we mentioned in the highlights slide, we have been establishing export infrastructure for bitumen in order to protect ourselves against the shrinkage in the Turkish market and forthcoming IMO 2020 regulation change. As a result of this effort, we have exported about 250,000 tons of products in the first half this year.

Now let's move to the financials. We have the refining margin developments on this slide, lower crack margins and narrowing oil Brent differential reduced med complex refining margin to $1.70 per barrel, which is the most value since 2014. Tüpras' net refining margin was materialized at $2.80 per barrel in the second quarter of 2019. Weaker oil market conditions, increase in energy and inflation-driven costs and RUP maintenance negatively affected our recurring margin. Despite all the unfavorable conditions, we were still $1.1 per barrel higher than med margins, thanks to price advantages closely. The important point to note here is that second quarter refining margin was still in line with what we had expected in the beginning of the year. Hence, our year-end guidance for full year net refining margin remains unchanged.

Now let's take a look at the P&L items for the second quarter of 2019 compared to second quarter of last year. Our revenues increased by 19% and reached near TRY 24 billion. This was mostly on the back of dollar versus lira increase, i.e., Turkish lira depreciation. Our costs increased more, mainly due to narrower heavy differentials. On top of that, weighted average crack margins were around $1.03 per barrel below last year's same quarter, leading to a drop in gross profit by 25%, lending to TRY 1.7 billion.

Our operational expenses posted 62% growth, mainly due to Turkish lira depreciation and inflation adjustments to Turkish lira-based cost. Below operational figures, 720 bps higher Turkish lira funding costs, and 40 bps higher U.S. dollar funding costs led our financial expense to increase to near TRY 800 million. However, this is somewhat coming back to simply. We had a positive tax impact due to the revaluation of the future tax income. As you know, the declarations of the revaluation rate by the government impacts shorter value of the future tax benefits. We applied adequate to evaluation rates twice every year in the second quarter and in the fourth quarter.

The decrease in operational profitability and higher financial expenses were partially offset by this tax gain and our net income materialized as TRY 870 million in the second quarter of 2019. We have recorded TRY 1.5 billion of EBITDA, and we have recorded TRY 675 million of inventory gains, including our hedging activities. This gain was driven by increase in Brent price as well as Turkish lira depreciation. When we deduct this inventory gain from reported EBITDA, we reach TRY 820 million of clean EBITDA in the second quarter of 2019.

Now let's take a look at our profit before tax bridge. As you can see, the decline in profit before tax over the second quarter of 2018 was mainly driven by the narrow differential, RUP maintenance and weaker crack margins. This was partially offset by the increase in production and effects in interest impact. 700,000 tons of production increase in the second quarter of this year created a positive TRY 275 million impact. Higher production amount is due to low base of second quarter of last year due to CDU demand. We have recorded TRY 422 million negative impact from $2 to $3 per barrel narrowed heavy crude differential.

RUP maintenance had a negative impact of TRY 371 million, which is in line with our disclosure of USD 40 million per month, which we made early this year. Except for high sulfur fuel oil, weaker performance of product crack, left us $1.03 per barrel change in total weighted average crack margin, with almost 52 million barrels processed, the impact on Tüpras financials was negative TRY 311 million.

As you may recall, second quarter 2018 FX loss amount was much above compared to this quarter's amount. Hence, FX and interest difference stayed positive this time at TRY 374 million.

The last item is others, which includes items such as, due to the maintenance in crude units, our natural gas consumption was lower in the second quarter. Because of that, price hike impact on bridge was limited. We have included natural gas under the other items. Compared to the second quarter 2018, inventory gain of this quarter was limited. Therefore, we opted to include that under other as well.

Now for the financial highlights of the quarter. Our EBITDA was realized at TRY 1,495,000,000, about 33% below last year's same quarter. This brings reported EBITDA to TRY 2.3 billion for the first half of 2019. With TRY 870 million of net income in the second quarter, we recovered the loss incurred in the first quarter of 2019, and now we have a net income of TRY 495 million in the first half of 2019. Regarding gearing, our net debt-to-EBITDA ratio is at 1.3x. Our current ratio is at 1.1. Our own return on equity materialized at 27%.

Let's continue with the details of our balance sheet. Our cash and cash equivalents and financial liabilities at the end of the second quarter of 2019 was TRY 9.9 billion and TRY 20 billion, respectively. This has reduced our net debt to TRY 10.1 billion as of the end of the second quarter of 2019. The short-term portion of financial borrowings was TRY 4 billion, as you can see from the top right box. Around TRY 3.5 billion out of the TRY 4 billion is short-term portion of long-term borrowings. As you can see from the redemption schedule, that majority of our late long-term financial debt is our $700 million worth of Eurobonds, which has a 4.5% interest rate, and which will mature on October 2027.

Let's move to our FX exposure management slide. We continue to employ rigorous FX policies to mitigate currency risks and our policies continue to keep the risk level within our limits. Our treasury team managed our balance sheet and FX risks in a holistic way. We have finished the quarter with about USD 1.1 billion in hard currency cash to cover for change on the liability side. Our foreign exchange exposure was just $2 million long within our limits at the end of the second quarter. We will continue to employ tight financial exposure management policies to cover our balance sheet and manage our FX and commodity exposures.

Now let's take a look at what we have achieved so far in 2019. As we have mentioned earlier, weaker market conditions depressed refining margins in the first half of 2019. Therefore, in the first half, Med refining margins and Tüpras' net refining margin materialized at USD 2.70 per barrel and USD 3.50 per barrel, respectively. Despite RUP maintenance, thanks to detailed planning and accurate inventory management, we have achieved 95% capacity utilization in the first half of 2019. We have produced around 13.7 million tons of products in the first half of 2019 and sold around 14.4 million tons. We spent USD 70 million in refining CapEx.

Regarding our maintenance schedule, we maintain our 2019 schedule, which was disclosed early this year. We have successfully left behind the most important maintenance of recent years and all RUP have started production safely and at full capacity on the 13th of May. Regarding the rest of the year, there is no change in the whole program, and there are 3 maintenances left for the fourth quarter of this year.

Now before we conclude the presentation, let's take a look at our 2019 guidance. We only updated our expected CapEx from USD 250 million to USD 200 million. The rest of our 2019 guidance remains unchanged. Going quickly for the numbers. In the second half of 2019, we expect refining margins to see apart with the IMO 2020 regulation change, which should also contribute to widening of light and heavy RUP differentials. In light of this expectation, we maintain our $6 to $7 per barrel net refining margin targets. The completion of RUP maintenance, higher by-product yield and processing lower API crudes, will also support our margin. We also maintain our capacity utilization target of 95% to 100% for the full year.

Thank you for listening to me. We can now open up

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