LG Energy Solution Ltd

KRX:373220

Earnings Call Transcript 2024-Q1

[Sara Hwang, executive]

Good morning. This is Sara Hwang, Head of IR from LG Energy Solution. Thank you for joining our Q1 2024 Earnings Conference Call. First, I'd like to introduce for our present today. Lee Chang Sil, CFO; Kwon Seok Bong, CSO; [ Jung Wooyoung ], in-charge of Finance and Accounting Group; [ Lee Sangyoon ], in-charge of Finance; [indiscernible], in-charge of Planning Management; Kim Dong-Myung, in-charge of Advanced Automotive Battery Planning and Management; [indiscernible], in-charge of Mobility and IT Battery Planning Management; and Seungse Chang, in-charge of ESS Battery Planning and Management.For your reference, the presentation for business performance and strategy will be conducted with simultaneous interpretation, after which we will have Q&A with consecutive interpretation. The presentation slide will be webcast live and also downloadable on the corporate website. In this conference call, I'm going to briefly share our Q1 2024 performance and then CFO will explain recent progress on major action plans followed by Q&A session. Please note that the forward-looking statements including the call are subject to change according to amendments in future business environment and corporate strategies.First, let me explain business results. In Q1, revenue marked KRW 6.1 trillion, down 23% Q-o-Q. With our proactive response for cylindrical batteries for EVs, mainly for the volume of the strategic customer, the revenue of small size batteries grew by double digits. The revenue of large pouch batteries for EVs declined Q-on-Q with a decrease in shipment volume impacted by sustained conservative inventory holding by EV customers due to slow demand trend following the previous quarter and continuous decline in metal prices in the latter half of last year reflected in [indiscernible] battery ASP. In the meantime, ESS show a significant drop in revenue due to the base effect caused by the concentrated response to the power grid demand in the last quarter in addition to the combined impact of seasonality of [indiscernible] of peak season.For profitability on top of decline in revenue, fixed cost burden were incurred due to the utilizing rate of the products lying in Poland, which remained at low level and Michigan plant transition into new lines, adding to that with the precision lagging impact of input raw material prices due to a decline in metal prices, despite receiving one-off compensation from certain customers in return for not having satisfied the minimum purchase guarantee. OP in Q1 recorded KRW 157.3 billion, representing 53% decline Q-o-Q. The IRA tax credit effect was down Q-on-Q to record KRW 188.9 billion, attributable to the impact of customer demand and the shutdown of some production line in the Michigan plant for the remodel purposes mentioned earlier. Excluding such effect was operating loss of KRW 31.6 billion.In nonoperating items, even with interest expenses of about KRW 41 billion due to gains on valuation of derivative instruments and others impacted by the depreciation of the Korean won against the U.S. dollar at the end of the period, nonoperating profit came in at KRW 65 billion. Accordingly, net profit recorded KRW 189 billion, similar to the previous quarter with net profit margin of 3.1%, up by 0.7 percentage points Q-o-Q. Net financial position, the total assets in Q1 '24 increased by about KRW 3.8 trillion compared to the previous year-end to stand at KRW 49,275 billion due to acquisition of tangible assets and increase in cash and cash equivalents with liability-to-equity ratio of 85% and net debt-to-equity ratio of 28%.Our cash flow this quarter, in spite of positive cash flow stemming from EBITDA generation of KRW 0.8 trillion and a fund inflow of KRW 1.6 trillion from the issuance of Korean won denominated bond due to CapEx spending of around KRW 2.9 trillion for expansion of JV capacity in North America, the cash balance at the end of the first quarter increased by KRW 290 billion compared to the previous quarter end, reaching KRW 5,288 billion. The EBITDA margin improved by 1.1 percentage points Q-o-Q to 13.3%.With this, let me end my explanation on the business performance and move on to the next part on recent progress and future action plans by CFO, Lee Chang Sil.

[Chang Sil Lee, executive]

Good morning. This is Lee Chang Sil. First, the most noticeable achievement that we have pursued since this year is the expansion of stable operation in North America. Since this February, our second JV with GM in Tennessee in the U.S., has started operation in earnest and is shipping our products as planned at the moment. These products are to be supplied to new EV models based on GM's BEV3 platform. Through discussions with the customer, we plan to gradually expand our production capacity of the 50 gigawatt hour down the road.Furthermore, the GM JV Phase 2 is of great significance in that it is a smart factory applied production facility, which has highly improved productivity through cutting-edge quality assurance session for age process. And it was enabled by introducing more advanced automated manufacturing process than before. In addition, we have begun the construction of the Arizona plant, our second stand-alone capacity in North America. Arizona capacity is not only the first cylindrical battery plant in North America, but also holds significant meaning as an ESS exclusive production facility. With this, we can secure price competitiveness through cost savings in logistics, customs and others and receive production incentive.Additionally, we'll be able to provide differentiated customer value with more timely local response to customer needs. At the Arizona plant, the 46-Series in new cylindrical form factor, the ESS products based on LFP chemistry will be produced and they are scheduled to begin mass production from 2026 and through this we aim to solidify our [ geological ] and market leadership.Let me update you on our progress of new businesses. We have been making continuous efforts to expand our business beyond battery production and sales into software and service areas with a mid- to long-term perspective to widen our business scope and create a virtuous cycle. As part of this effort, we decided to collaborate with Qualcomm Technologies in March to pursue the development of advanced BMS solutions for next-gen EVs. Based on the analysis of over 10,000 battery data points collected from the field, we hold over 7,000 patents in battery management system alone with a predictive accuracy of up to 90%. In safety diagnostic algorithms, we have established top-tier capabilities in this industry.In addition to our outstanding BMS diagnostic software technology, we plan to leverage Qualcomm's high-performance cloud platform to develop advanced diagnostic solutions. With over 80x improved computing power, we will be able to execute more sophisticated battery algorithms in real time and implement cutting-edge BMS functionality. Through this we will provide differentiated value that enables global OEMs to achieve optimal performance, efficiency and safety in their next-generation EV model.Another meaningful achievement in our new business area is the expansion of the battery swapping station business nurtured as an in-house venture. The BSS business provides a service for electric 2-wheelers such as e-bikes, where used batteries are exchanged with fully charged ones, reducing charging time and enhancing user convenience as well. The BSS operates based on BMS technology, enabling real-time management of data points such as remaining lifespan and temperature. And currently, it is being operated only in Seoul but going to be expanded nationwide by 2025. One notable aspect of the BSS business is that we can have direct access to battery field data. Based on this, we are conducting R&D activities to analyze consumer usage patterns and develop technologies that can extend battery life spans. We plan to apply these findings to future sale designs.Next, supply chain establishment and financial progress. In February this year, we signed a contract with Changzhou Liyuan to secure about 160,000 tonnes of LFP cathode for the next 5 years. These materials will be supplied from China, Indonesia and these will be utilized for ESS battery production. Furthermore, we have also secured additional 85,000 tonnes of lithium concentrate from Australian mines. With this, we intend to increase the amount of secured metals eligible for our [indiscernible]. Through these efforts, we aim to establish a stable supply chain for product portfolio and material diversification.Regarding financial progress, we have been securing investment resources through competitive funding activities on time. In February, we successfully issued corporate bonds for a record-breaking KRW 1.6 trillion in the Korean corporate bond market issued as green bonds, recognizing the environmental friendly nature of our business. Leveraging our excellent credit rating, we're able to fund at favorable interest rates. In the meantime, to ease the financial burden from our expansion investment in North America, we have entered into a long-term lease agreement for the Arizona plant building for 20 years. This is to mitigate the initial burden of construction investment and spread cash outs that were previously concentrated in the short term over a longer period.Next, we would like to explain our major action plans to secure fundamental competitiveness for this year. First, we'll respond more proactively to changes in market dynamics related to EVs and customers. On the investment front, we will closely examine the demand changes for ongoing projects. Also, we will adjust the investment scale and execution speed in consideration of the priority of investment execution. With these efforts will improve investment efficiency in terms of construction cost, equipment expenses and others related to business expansion.In terms of operational efficiency we will establish measures to maximize the utilizing rate of present sites that have been invested so far. This will help reduce fixed cost burdens while optimizing operational costs such as largest expenses and utility costs. By doing so, we aim to strengthen our fundamentals. Secondly, we'll secure cost competitiveness through raw material innovation. To reduce fundamental material costs, we're expanding the direct sourcing scope of raw materials from major metals such as lithium to precursor. And additionally, through direct investment in the value chain, we are going to further enhance our material cost competitiveness. And also, we expect that we'll be able to achieve improved profitability going forward.Thirdly, on the operational front, we will actively respond to the demand of OEMs based on strong partnerships with key customers. In particular, in the second quarter, we initiated the mass production of 10 gigawatt hour in the Hyundai Motor Group JV in Indonesia with [indiscernible]. In the second half of the year, we plan to start module production in Stellantis JV, which is of 45 gigawatt hour in total scale and located in Ontario, Canada. With these spaces, we will diversify our global production hubs. Lastly, we will expand our product lineups to lead on market based on our unmatched technological leadership. On the establishment of production plant at Ochang at the end of last year, the cylindrical 46-Series is expected to be mass produced smoothly from the third quarter. Furthermore, starting from the end of last year, we have initiated mass production of ESS LFP in Nanjing, China. By actively responding to demand in the power grid market, we plan to increase the supply to North America and Europe.Investors, analysts and shareholders, this year, we acknowledge that there are challenges posed by geopolitical shifts globally, inflation burden from prolonged high interest rates and heightened volatility in the EV market, it is true that these factors influence our business results in the near term. However, we view these as temporary pains that are inherent to our journey towards bigger growth going forward. And given this, we will further solidify our fundamentals and establish a solid footing to grow as global #1.Thank you. Well, this is the end of our presentation and let me move on to the Q&A session. For more participants to get chances, please limit your questions to two.

[Operator]

[Operator Instructions] [Foreign Language] The first question will be presented by Kim Hyun-soo from Hana Securities.

[Hyun-So Kim, analyst]

This is Kim Hyun-soo from Hana Securities. And I would like to ask 2 questions, one on earnings performance and second, on the regulation. To address my first question on your earnings performance, I would like to ask the company to please share the overall outlook or how you currently see the performance shaping for the second quarter and also to share your latest update in respect to the 2024 full year earnings outlook. I know that there was earlier communication on this, but I would like to share the company's latest position on the 2024 full year outlook.Moving to my second question. This is related to how the company is responding to the changes in the regulation. As we have noted in the U.S., we are also seeing that there has been some relaxation in respect to the fuel efficiency standard. EU also on its part, has actually eased its carbon emission regulation and standard as well. And thus, with these developments, there is some concern arising that the slowdown on the demand side could be prolonged further. And so I would like to ask the company to please respond to how you see how the developments have been going forward.

[Chang Sil Lee, executive]

This is CFO, Lee Chang Sil. Thank you for those 2 good questions. I will first answer the question on the overall earnings outlook. And then I will ask the CSO to answer the second question related to the possibility of prolonged slowdown in EV demand due to the relaxation of the fuel efficiency standard and the company's response strategy.In the second quarter, we expect the decline in prices of major metals such as lithium will have an impact on our ASP and more time is needed for customer demand to recover, especially in Europe. However, with the increase in the JV volume due to the launch of new vehicles by U.S. strategic customers, we believe that our performance in Q2 will be improved compared to the previous quarter. We will also be talking about from a bottom line perspective. And to mention that if we look at the North American production, as the production expands, the IRA tax credit effect is expected to also increase as well. But at the same time, while we are making various efforts, we still see the utilization rate in our European plant remaining at a low level. And we are at present currently in the process of remodeling our U.S. standalone plant. We are actually doing this in order to increase our productivity and improve our quality.And at the same time, we also see that the lagging effect from the raw material prices as a result of the decline in the metal prices still has an impact on our Q2 earnings. We believe that this impact will be phased out in Q2. But of course, if we're talking about Q2 outlook, it will still have some impact. And so with that said, we are also going to be quite challenged in having a significant improvement in our bottom line compared to the previous quarter. However, as we go into the second half, our major customers will launch more new EV models and there's a full-scale ramp-up for the GM BEV2 as well. And so we are also seeing that there are various all positive factors happening. And this was actually also resonated by the various OEMs earnings announcement that we have actually heard in the last 2 days as well.And so on a relative basis, we are also going to actually see some possibility of improved earnings performance compared to the previous quarter, but at the same time, we're faced with the fact that there are still external factors such as the policy change, most recently in the U.S. and also the possible impact that the election will bring for. And thus, we cannot actually exclude the possibility of changes happening in the demand on the EV market as well as the customer volume as well. And so accordingly, the company will closely monitor changes in the market and actively and pre-emptively respond to changes in the business environment.At the same time, we will make efforts to quickly realize sales revenues of projects that we have secured orders on within the second half of this year and minimize the fixed cost burden by maximizing the utilization rate of currently invested capacity. And last but not least, this is something that, of course, we have always been focused on, and we'll continue to strive to improve profitability through cost innovation and major cost optimization. And these are activities I will make sure that we are actually conducting them with more precision going forward.

[Bong-Seok Kwon, executive]

Moving on to your second question, this is Kwon Seok Bong and I would like to address the second question related to the recent changes in the regulation in the U.S. and in Europe. As you have mentioned, in the case of U.S. corporate average fuel economy, the CAFE regulation as well as Europe's carbon emission regulation, Euro 7, there has been a relaxation in respect to the standards that have been announced previously. And thus, what we are currently seeing is that the OEMs are making adjustments in respect to how they were actually forecasting the overall outlook and the EV penetration rate in the long term.And so on a global basis, that level has actually gone down from 50% to 40%. And as a result, if we look at the short-term changes, it's possible that we can actually see more volatility in respect to how the OEMs are pacing themselves and changing the speed of their electrification as well. But at the same time, we also recognize that in order to actually have some cost savings related to EV, there will be a growing need to actually provide more lower-end solutions into the market as well. And so for this end, our LG Energy Solution, is actually responding in 2 areas. The first is really to look at the high growth potential of the ESS business, and we want to make sure that we're fully leveraging the ESS business opportunities going forward. And in order to do so, we're going to continue to make sure that we're leveraging our existing infrastructure to increase our utilization to meet this end as well.And moving to the second response measure is really to make sure that we are keeping pace with the overall development and the strengthening of the mid- to low-end EV market growth as well. As this market actually grows, we will also make sure that we have the right products to address these markets. This means that we will also be continuously making sure that we are producing the high-voltage vehicle and LFP products as well. And in respect to the cylindrical form factor, we'll make sure that we're going to be able to expand the production of the 46-Series, which is more price compared -- which is more price competitive than the previous 2170, and we're going to make sure that we continue to expand our line up to meet the mid- to low-end EV line up as a very competitive value company.

[Operator]

[Foreign Language] The next question will be presented by Cho Hyung from HSBC Securities.

[Woo-Hyung Cho, analyst]

This is Cho Woo-Hyung from HSBC Securities and I also have 2 questions. I would like to ask about the company's investment and the overall market demand. I will first ask the question related to the market demand. And specifically, because of recent development, we can actually recognize that your business in North America will have greater importance. And so if the company can, please share the EV sales status and outlook for GM.And moving to the question on the investment side, there is concern in the market related to the slowdown of demand in the EV market. And as such, there is also a greater possibility of OEMs making changes to the electrification plan as well. So, could the company please comment on these 2 questions.

[Dong Myung Kim, executive]

This is Kim Dong-Myung from Advanced Automotive Battery Planning and Management. I will address your question on the demand side, and I will then ask the CFO to answer the question on the investment. Due to the discontinuation of the Ford EV model at the end of 2023 by our major customer in North America and the adjustment of the new car launch schedule, the customer's EV sales performance in the first quarter, this appears to have been not great. In fact, however, the sales of alternate platform vehicles are continuously increasing. And from the customer, we have heard that they are planning a series of new model launches within this year, starting in April, thanks to IRA subsea benefits and vehicle price reductions. So, we anticipate that the customer vehicle sales performance to improve significantly to improve from the second quarter.And as stated by the customer in its earnings presentation 2 days ago, it appears that GM's annual EV production plan of 200,000 to 300,000 vehicles announced earlier this year is still valid. And that we believe that there are product brighter prospects in the second half compared to the first half of this year, and we'll make various efforts that this actually is lead to the increase in our volume as well. Of course, our recent changes in the market environment. And so we recognize that the recent market environment is not easy. So, we need to keep a close eye on every situation. However, since we are shortly operating on the JV with the customer, we'll continue to closely discuss various aspects, including the volume and reflect that into the operation plan and adjust the speed of production and investment.

[Chang Sil Lee, executive]

This is the CFO, and I will answer the investment question. And as you mentioned, there are various concerns currently on the market side as well as on the customer side as well. And in light of the recent circumstances surrounding the market and the customers, I want to go back and say that during the earnings call that we had in January that our plan was to actually keep this year's CapEx spending at a similar level to the previous year. However, if we actually think about what has happened recently in for some time in the near future because in terms of the lack of visibility of the external environment and lack of visibility in seeing our demand improving in the EV market.For LG Energy Solution, what we will be doing is really having a select and focused approach and to make sure that we are focusing on the essential new investments to respond to the mid- to long-term demand and pre-emptively securing capacity in North America. And as mentioned, we will make necessary adjustments to be proactive in investment size and execution speed. But this will be done all in consideration of investment priorities so that the efforts that we're making is geared to reducing our CapEx scale as well. For this end, for the company, we will communicate closely with our customers to adjust the speed of investment execution by more precisely analyzing the suitability of the investment plan. And at the same time, we want to make sure that we're minimizing additional CapEx spending. And in order to improve utilization will strive to optimize asset management through transfer of idle lines between business division and other measures as well. And lastly, we will also be focusing on reducing equipment and installation costs through competitive bidding. We plan to continue first to reduce equipment investment cost by securing equipment cost competitiveness. Thank you.

[Operator]

[Foreign Language] The next question will be presented by Yong-Wook, Hanwha Investment & Securities.

[Yong-Wook Lee, analyst]

This is Yong-Wook from Hanwha Securities. And I would like to first thank you for this opportunity. And I have 2 questions that are all very much related to the demand, market demand. My first question is related to the overall decline in the Tesla EV sales. And during its recent earnings call, Tesla had mentioned that they believe that improvement in earnings will come from the second quarter. But having said that, I would like to also share from LG Energy Solution, how you see the demand of your customers paying out in the future? And what would be -- what would that -- how would that impact your business going forward?My second question is related to the overall slowdown in demand in the European market. And as a result, my specific question is related to the possible longer prolongation of the adjustment that you're making in your Polish plant utilization and how company is actually responding to this as well.

[Unknown Executive]

This is [indiscernible] from the Mobility and IT Battery Planning and Management. And I will answer your question related to the overall sales of the EV cylindrical batteries and the impact this will have on the company's business. And as you have heard from the recent customers' earnings release call, the sales volume in the first quarter was somewhat lower than expected due to logistics disruption from geopolitical risk, renovation of some plants and also the intense of competition from China. And so they have, during their call, have explained that their performance was actually less than expected. However, in the case of LG EnSol's first quarter cylindrical EV sales after the tight inventory management at the end of last year, sales increased compared to the previous quarter, driven by the customers' restocking demand.And depending on the customers' future vehicle sales trend, our cylindrical battery sales may be somewhat affected. Thus, we plan to minimize risk by continuously monitoring market demand and engage in close discussions with customers. And we also had, in the second half, we had mass production of the 46-Series cylindrical products scheduled in Ochang and as the customer also has mentioned, to actually keep the plant to also roll out more LEVs going forward. We will also make sure that we're very active in capturing new market opportunities as well. And thus, we will also make sure that we will be able to develop the new applications so that we'll be able to also ride the growth of the LEV market as well.

[Dong Myung Kim, executive]

And on the second question related to the possible utilization rate adjustment in Poland being prolonged and the company's response plan. This is Kim Dong from the advanced automotive battery planning and management. And the answer to your question is that as demand from European OEMs have decreased due to complex external environmental factors such as economic instability, subsidy cuts and intensifying competition with Chinese companies, we have lowered the utilization rate of our Polish plant since the fourth quarter of last year, which has resulted in carrying a sizable burden on the fixed cost side. The situation is expected to inevitably affect our profitability until the first half of this year. But despite this, we'll continue to make efforts to reduce costs such as optimizing our resource operation and improving testing efficiency. And we will actively respond to market conditions by reviewing the conversion of idle lines to other applications starting in the second half of the year and we plan to improve the -- and despite doing, to improve the utilization rate of our Polish subsidiary.

[Operator]

[Foreign Language] The last question will be presented by Park Hyung Wou from SK Securities.

[Hyung Wou Park, analyst]

This is Park Hyung Wou from SK Securities. And I would like to thank you for the opportunity. And I want to actually ask you about the EV market as well as the ESS market. In respect to the EV side, it seems that the OEMs are very much focused on hybrid and EVs. And so I would like to ask the company how you actually see this development? What are the threats and opportunities for the company?Moving to my second question related to the ESS LFP business. Of course, for ESS LFP, this is still in a very early stage of development for the industry, but the company has actually made 2 notable achievements. Most recently on the ESS side, you have actually raised yourself as a top player in the domestic market. And out of the 3 companies, you were the first to secure the recipe for the LFP. And so with these very significant upside, I would like to actually ask the company to please share the current status as well as the future outlook for your sales and for your production and sales status.

[Bong-Seok Kwon, executive]

This is the CSO, Kwon Seok Bong. And I would like to answer the first question on the recent developments of PHEV and HEV. And in terms of the recent changes, so the first is the relaxation of the fuel efficiency regulation and we're also seeing an overall slowdown in the growth of the EV market. But at the same time, the OEMs are making efforts to continue to expand the sales of PHEV and HEV. And in terms of the number of the car park for these electric vehicles, overall, we'll see that the [ xEVs ] will continue to increase its share of the EV penetration into the market. But if you also look at the overall capacity of the batteries that are loaded onto these PHEVs and HEVs, they're actually much lower.And so in terms of the overall capacity in terms of the how the PHEV and HEV cars will take up in the electric vehicle market. For the outlook for 2030, we believe that they will still be under 10%. And so with that said the company will focus on making sure that we expand the existing lines to respond to the growing demand for these plug-in hybrids as well as hybrid vehicles. And so for the company, our plan to continue to focus on building batteries for electric vehicles remains unchanged. Thank you.

[Seung-se Chang, executive]

In respect to your question related to the overall status and the outlook for the ESS LFP production and sales, this is Chang Seungse of the ESS Battery Planning and Management. The company, as of the end of 2023 have converted some lines in Nanjing, China to LFP production. And we are also ensure that we are responding to supply LFP batteries for various applications starting from this year to North America and Europe as well. And in light of the growth of the LFP demand in the ESS market going forward, we are focusing on improving our LFP, our product competitiveness by actually producing, mass producing the LFP long cell from the second half of 2025 in Nanjing, China. And starting from 2026 in U.S. Arizona, we will also have ESS dedicated capacity of 17 gigawatt hours are prepared to meet such demand as well.And at the same time, we'll fully leverage our SI capabilities as well to tackle the slowdown of the EV market by actually focusing on the ESS market, which actually has a very high growth potential. And this will actually be helped to offset any decline coming from the overall slowdown in the market. And ultimately, this will help to drive the growth of the company.

[Operator]

[Foreign Language] That brings us to the end of 2024 first quarter earnings. Thank you.[Statements in English on this transcript were spoken by an interpreter present on the live call.]