Turkiye Petrol Rafinerileri AS

IST:TUPRS.E

Earnings Call Transcript 2018-Q4

[Operator]

Ladies and gentlemen, welcome to Tüpras Q4 2018 Financial Results Conference Call and Webcast. I will now hand you over to your host, Mr. Levent Bayar, Investor Relations Manager. Sir, the floor is yours.

[Levent Bayar, executive]

Hi. Good evening from Tüpras headquarters. Welcome to our teleconference. I am Levent Bayar, Head of Investor Relations. I am here with Dogan Korkmaz, our CFO; Asli Gülçur, Strategic Planning Director; and Tuncay Onbilgin, Financial Reporting and Planning Director.

Over the next hour, we will first present the results and then take your questions. In the next 2 slides, we will provide you with a brief summary of the key highlights regarding the fourth quarter, and we'll go into detail later.

Let's start with the key highlights for the quarter. We will first provide an overview of the key factors regarding the external market environment. Following strong 9-month performance, we have started to see slowdown in domestic demand growth during the fourth quarter. Nonetheless, in the first 11 months of this year, diesel demand grew by 4.2% and jet fuel demand grew by 9%.

In the fourth quarter of 2018, middle distillate cracks maintained their strength, similar to the first 3 quarters of the year. Fuel oil cracks continued improving and gasoline cracks were weaker compared to fourth quarter of 2017. Diesel cracks were higher by 34%, jet fuel cracks were higher by 33% and high sulfur fuel oil cracks were higher by 29%. On the contrary, gasoline cracks were lower by 57%.

Crude oil price reached its annual peak in the October followed by a 40% decline until year-end, mainly due to increase of supply, especially from the United States as well as Saudi Arabia and Russia, and slowdown in global economy, particularly China and Europe. With the normalization in the financial markets, lira appreciated by 12% during fourth quarter. As you may recall, both Brent and dollar to TL price has different impacts on different parts of our P&L and balance sheet, on which we will explore details in the upcoming slides.

We have achieved 99% capacity utilization in the fourth quarter of 2018 after bulk of the maintenance completed early in 2018. Our annual capacity utilization is 96%. In fourth quarter of 2018, our sales increased by 3.4%, mainly with steady mid distillate demand and exports. Impact of our strong position in a short, growing refined products market in Turkey and our capital structure are reflected in our financials. Our EBITDA has grown -- has shown a strong growth by 53% in lira terms in the fourth quarter, whereas net income more than doubled compared to last year's same period.

Tüpras net refining margin in the fourth quarter was at $5 per barrel, which was weaker with respect to the first 9 months of 2018. Our robust risk mitigation actions, based on our hedging policies, helped limiting the effect on P&L. We will provide the details on the refining margin developments in the upcoming slides.

In summary, we processed 6.6 million tons of total crude and other feedstock, sold about 7.6 million tons of refined products and generated around near TRY 1.9 billion of EBITDA in the fourth quarter of 2018.

Now let's take a look at the highlights of the year. 2018 has been a maintenance-heavy year for Tüpras ahead of the IMO 2020 preparations. Capacity utilization target, which had a guidance range of 95% to 100%, was realized at 96%. We have sold about 29.8 million tons of products. With the significant drop in the Brent prices during the fourth quarter, our refining margin deteriorated, but we still managed to finish the year at $9.3 per barrel.

2018 was also a year of volatility in both Brent prices and dollar versus lira. Dollar versus lira depreciated by 40% in 2018, and peak was at the August at 82%, while Brent prices fell by 25% where peak was during October at $86 per barrel. Tüpras finance and treasury team managed these challenges effectively in order to minimize the impact on P&L and on our dividend payment capability. Tüpras EBITDA posted 51% growth in lira terms in 2018 on the back of solid sales performance and dollar-based pricing of our products.

Now let's begin the market section by taking a look at the cracks. Compared to the fourth quarter of 2017, in the fourth quarter of 2018, diesel cracks retained their steady growth to reach $17 per barrel in the fourth quarter. During the fourth quarter, diesel cracks posted 34% growth, mainly due to low stock levels supported by solid demand growth in both developed and emerging markets.

Similar to diesel cracks, jet fuel cracks also posted a solid growth by 33%, which was driven by strong growth in air traffic and low stock levels as well. On the other hand, gasoline cracks declined by 57% in the fourth quarter of 2018. This was on the back of 2 main factors: first, high stock levels, particularly in the United States; and, second, the elevated light product yield posted by both shale oil and shale gas as a result of gasoline cracks at $5 per barrel during the fourth quarter of 2018, which is the lowest over the last decade.

Finally, fuel oil cracks increased by 29% compared to last year's same period. This was mainly driven by supply-related factors such as limited heavy crude availability plus Iran sanctions and drops in supply of Singapore and Russia. Higher United States light crude also positively impacted high sulfur fuel oil cracks due to lower fuel oil yield from the lighter crudes.

Now moving over to the crude price differentials. Taking a look at the past 2 years, due to sharp decline in crude prices, OPEC announced a cut decision in the first half of 2017, which has caused a narrowing in financials. In early 2018, the financials widened due to worldwide refinery maintenances and began to narrow again after refineries were back online.

As you know, sanctions regarding Iran were announced in May 2018, and OPEC policy change was announced to increase production in June leading to a widening of differentials during second quarter and early third quarter in 2018. During the third quarter of 2018, the financials narrowed on the back of expected loss of supply from Iran as well as limitations in Venezuelan supply. During the fourth quarter, crude differentials narrowed further with Iran sanctions kicking in on November 4 and OPEC cut decision on December, which was around 1.2 million barrels per day. As you can see on the graph, while differentials narrowed in Q4, we would like to remind that they are not as narrow as fourth quarter of 2017 levels.

Now let's move on to the operations. In the fourth quarter of 2018, our total crude and other feedstock capacity position was at 99%. This is 4 percentage points above last year's same quarter. In 2018, we have produced 25.7 million tons of product and reaching 96% capacity utilization rate for the whole year.

Moving over to the sales. We have generated total sales of about 7.6 million tons in the fourth quarter of 2018. As you can see on the graph at the right, middle distillate sales has grown by around 3% compared to last year's same quarter.

Now let's move to the financials. Starting with refining margin. In the fourth quarter, Tüpras net refining margin was $5 per barrel, which was in line with Med complex margin. Main reason behind the weaker refining margin was the 40% drop in Brent prices. Advantageous crude slate of Tüpras as well as higher mid distillate product yield compared to the Med margin composition helped maintain the positive difference in margins.

Now we would like to remind 2 points here. First, Med margin calculation excludes inventory gains and losses, whereas Tüpras recorded around $4 per barrel inventory-related loss in its refining margin in the fourth quarter. Second, as an industry standard, hedging operations are excluded from refining margin calculations. Hedging operations helped Tüpras to recover a large extent of inventory losses impact in its fourth quarter financials.

Now let's take a look at the P&L items for the fourth quarter. Our revenues increased by 70% to TRY 24.8 billion in Q4. This was mainly achieved by average 45% depreciation in lira, 10% increase in Brent price and around 3% increase in our sales volumes. Our gross profit also increased by 45% to TRY 2 billion. The key reason for limited growth in gross profit was inventory losses, driven by 40% decline in the Brent prices.

Our operational expenses posted 23% growth in the fourth quarter of 2018. This was mainly due to applying new FX levels to year-end expenses in hard currencies. As you may recall, FX impact of payables are booked under income and loss from other operations in our P&L. The positive figure of TRY 1.6 billion is mainly as a result of lira appreciation and its impact on our stock level in the fourth quarter.

Also regarding hedging, you will see the impact of inventory hedges in cost of goods sold, which is above EBIT level, while FX hedge impacts are seen in financial income and expenses, which is below EBIT level. Regarding product crack hedging, mark-to-market impact is recorded under equity, and they will not impact P&L until maturity. Our FX exposure management and hedging policies enables the system to preserve operational profitability of the company and prevent volatility in earnings.

Therefore, as you can see, the financial expenses incurred in Q4 were already recovered at income from other operations level during the quarter. With the tax revaluation gain incurred from 23.7% tax revaluation rate and asked by the government during 30th of November, our tax at fourth quarter was positive TRY 140 million, leading to TRY 1.7 billion of net income in Q4. This is well above last year's figure of TRY 501 million net income.

During the fourth quarter, we have recorded TRY 1.9 billion of EBITDA. If you bridge this to the EBITDA CCS, there is TRY 212 million inventory loss experienced during the fourth quarter. We would like to remind that this item includes our hedging activity during the fourth quarter, which have helped recover a significant part of our inventory loss impact stemming from 40% decline in Brent prices.

Now moving to the profit before tax bridge for the fourth quarter. As you can see, the increase in profit before tax over fourth quarter of 2017 was mainly driven by the operational FX gains coming from Turkish lira appreciation, which was at about TRY 846 million. Higher white product yield, which can be represented as 53% mid distillate yield in the fourth quarter versus 47% in the fourth quarter of 2017. This had an impact of TRY 426 million and increased crack margin with an impact of TRY 271 million. This was partially offset by inventory loss and narrowing crude oil differentials for the fourth quarter.

As we have explained previously, our FX gain mainly originate from our stocks, which is recorded in liras, but are effectively in U.S. dollars. On the other hand, the inventory loss is mainly a result of 40% drop in Brent prices and 12% appreciation in Turkish lira. We would like to remind that our inventory loss is largely recovered with our inventory hedging policies. In addition to that, narrowing of the crude oil differentials led to TRY 126 million impact in this quarter. Since this bridge mainly focuses on Tüpras refining activities, nonproduction expenses as well as changes in our subsidiaries' performances are recorded under other item, which is at TRY 31 million.

Now taking a look at the 2018 annual figure bridge for the profit before tax, 2018 profit before tax was mainly impacted with FX losses recorded from our stock levels, which we treat as a natural hedge. On top of that, our profit before tax was negatively affected with narrow differentials in 2016. With the help of FX-based price mechanism, FX losses incurred from the stocks were recovered as inventory gains throughout 2018. We also managed to keep part of inventory gain of the full year with the help of high hedging levels. Production-related negative impact is attributable to the maintenances, which has happened in the first half of 2018.

In the fourth quarter of 2018, our EBITDA was realized at TRY 1.9 billion, about 53% above last year's same quarter. Annual growth in EBITDA was at 51% in lira terms as well. Our net income in Q4 of 2018 increased to TRY 1.8 billion, which is roughly 2.5x of last year's same quarter. Annual net income was flat at TRY 3.8 billion compared to last year. Our net debt-to-EBITDA ratio is at 1.3x, thanks to strong EBITDA generation and tight control on financing. Our current ratio is also improved to 1.3x. Our return on average equity materialized at 37% in 2018.

Now looking at the balance sheet, our cash and financial loans at the end of the year was at TRY 6 billion and TRY 18 billion, respectively. Our focus on tight financial management has resulted in a near 8% long-term ratio in our financial loan breakdown. We have also successfully completed 2 years lira bond issue at TRY 650 million during early 2019, which will continue to support diversification of our financial resources.

Taking a look at the working capital management, our payables dropped by TRY 10 billion, mainly due to early payment of Iranian crude before November 4, which have been purchased earlier. This was done before November 4 to fully comply with the international regulations. You may treat this as a one-off. 40% drop in Brent price resulted in product price decrease in the fourth quarter of 2018 and reduced our receivables. Our receivable days remain intact at around 24 domestic and 7 for export. We will continue to employ tight working capital management in 2019 through keeping receivable days under control, increase payable days and focusing on cargoes with longer-term payables.

Now looking at the FX exposure management. We continue to employ rigorous FX policies to mitigate currency risks, and our policies continues to keep the risk level within our limits. Our treasury team manages our balance sheet and foreign exchange risks in a holistic way. We keep about USD 1 billion in hard currency to cover for change on the liability side. Our USD 1.5 billion worth of cash flow hedging and forwards also aim to cover for Residuum Upgrade project and eurobond's FX impact during lira depreciation.

We do keep and treat our stocks as a natural hedge as it consists of FX-based or U.S. dollar-based priced goods such as crude oil and unsold products. Therefore, in terms of lira depreciation, we do record operations related to FX sources corresponding to the amount of the inventory only to recover them when we use this inventory as inventory gains. This is what we have observed in the second and third quarter of this year with lira depreciation and Brent price increases. During the fourth quarter of 2018, we have observed the reversal of this with lira appreciation.

Now let's take a look at what we have achieved so far in 2018. We have produced around 26 million tons in 2018 and sold around 30 million tons of products at the same time. This production level indicates a capacity utilization of 96%. With a capacity utilization rate at 96%, ongoing strong mid distillate cracks and inventory gain, our net refining margin increased to $9.3 per barrel in 2019, which is above $8.1 per barrel in 2017 and $4.6 per barrel level of Med margin for 2018. We spent USD 138 million of CapEx in 2018.

Now let's take a look at our 2019 maintenance schedule. As you may have followed, we had a maintenance heavy year in 2008 (sic) [ 2018 ] and completed majority of the maintenances planned. Regarding group, as we have disclosed earlier this year, we are planning maintenance to be initiated on 26th of February and completed as of late May. We expect an EBITDA impact of USD 120 million during the shutdown of the facility. Aside from group maintenance, we only have a couple of maintenances in the fourth quarter that will have minimum impact on our capacity utilization and production level for 2019. We would like to, once again, remind that we are providing the table with details in order to increase awareness and provide further information. In real life operations, there could be shifts and the details in this table can be adjusted.

Now let's take a look at our 2019 guidance before we conclude the presentation. Due to narrowing differentials and weak crack margin expectations of high sulfur fuel oil, we assume annual Med complex margin for 2019 to be $3.75 to $4.25 per barrel. For Tüpras, we expect net refining margin to be between $6 to $7 per barrel with the help of higher white product yield and heavier crude processing capability of Tüpras, both compared to Med margin. Our capacity utilization target is 95% to 100%. We expect production level to be around 28 million tons and sales to be around 30 million tons for 2019. We are expecting to spend around USD 250 million on refining investment, and that's the end of our 2019 outlook.

Thank you for listening to me. We can now open our session to questions.