RHI Magnesita NV
LSE:RHIM
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RHI Magnesita NV
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Good morning, and welcome to the RHI Magnesita Q3 Trading Update. [Operator Instructions]I would now like to hand over to Stefan Borgas, CEO, to begin. Stefan, please go ahead.
Thank you very much. Good morning, ladies and gentlemen around the world. Thanks for joining our conference call for the third quarter trading update of RHI Magnesita. I'd like to talk about the environment for a few minutes, then I'd like to talk about the effect of that environment on us, on RHI Magnesita. And then of course, I'd like to give you a little bit of an outlook for the next month. What we have -- we have highlighted in August at our half year results update a number of issues that the business faces, and these issues are all in our Steel business. We said that our steel customers' end markets are experiencing lower volume demand in 2019, particularly in Europe. And this has accentuated during the third quarter, and it will get probably even more pronounced in the fourth quarter. That's what we expect. Volumes at our customers have reduced. And over proportionately, they have reduced their own inventories, among which, of course, also are refractory inventories. So the steel production reduction is much lower than the refractory order volume reduction. That affects the entire supply chain but us as well. And that has accentuated, and that continues, we think, until -- for the next month. Even more pronounced than this now is the lack of visibility that our customers have. If we speak to them individually, they're very confident about the next 3 weeks, but after that, they remain very fuzzy. And this is one of the reasons why also us have, month-by-month, experienced more downside rather than upside in the development. This is the environment. The steel demand will continue to soften, 3% second half '19 versus second half '18. Significant further reduction in inventories going into the first quarter of next year, especially in Europe and North America and in South America. We have given up some market share in addition to this because of margins that we were absolutely not satisfied with, that we couldn't live with. And we have an extraordinary effect if we compare our second half this year versus the second half last year, and this is the exit of our Iran business. This makes up about 1/4 of the volumes in that comparison. On the other hand, our Industrial business experiences none of this. We will have a record year in our Industrial business, and this is equally true for our cement activities, for our nonferrous activities, for our glass businesses, that are all remaining relatively strong. So the challenges we talk about, just happening. What are now the effect on RHI Magnesita? We have, as a consequence of this, softer demand at customers and, as a consequence of their inventory reduction, experienced materially lower volumes in the third quarter. And we'll see that continue into the fourth quarter against the previous year, which have been very high also. So the comparison is tough, but still, materially lower volumes. As a result, we have lower Q3 revenues despite a very encouraging impact from our pricing program. That has not balanced this out completely. The beneficial effect of the synergies and other cost savings have largely mitigated the poor fixed cost absorption from the plants, but not fully. And this has led us to reduce our operating profit expectation for the full year to something like -- something -- some number between EUR 400 million and EUR 410 million, which we expect now. One driver of this lower profit expectation also is our increased focus on cash, where cash delivery really becomes more important now. That also contributes to the fact that production numbers are lower than sales numbers, and of course, this increases [ our ] utilization expenses. Our cash generation, nevertheless, will be more muted than we had anticipated still in the half year, but this is due to the fact that the sales volumes are lower, and therefore, the reduction of the inventory goes -- happens, but at a lower speed than we had anticipated in the beginning. We expect customer end markets now to remain challenged, and that brings me to the outlook. We're experiencing this as a downturn, not as a crisis in any way or fashion. This is a downturn. We are used to this downturn. The particularity now is that the visibility is very, very short. I've talked about 3 weeks, maybe 4 in some regions, but no longer than this. And this is the same across North America, Europe. Also, South America visibility is very, very poor. We believe, however, that RHI Magnesita is very well set with the right strategy for this market environment, and we're actually quite prepared to benefit from this downturn because there are 5 specific packages of measures that we're executing. First, we have a very good response to our price rise program, and that is expected to continue into 2020. Second, we have still EUR 20 million of merger synergies to deliver in 2020 that will mitigate this volume -- this gloomy volume picture in the steel industry. Third, the production optimization that we have started in the last 3 months, we have accelerated the planning and the execution of this program quite considerably. And we will announce this with specific numbers and concrete measures in 3 weeks in our Capital Markets Day in London. So we need until then to put everything together properly. Fourth, we will be able to deliver a very solid cash flow in 2020, driven by all the working capital initiatives that especially Ian has initiated and is very focused on since he has joined the company in the second quarter of this year. And fifth, we also continue to benefit from our integrated business model, which we believe has a significant strategic and financial advantage, especially in this more difficult market environment. There are a lot of solution components that we're going to be able to launch starting now in the fourth quarter and also all during 2020. With this, I think, it's clear what the environment is, what effect is on us and how we see the next months and few quarters. And I would like to turn it over to you to ask any questions that you would like.
[Operator Instructions] We currently have 2 questions on the line. Our first is from Mark Fielding of RBC.
Stefan, 2 questions, if I can. The first ones are more sort of -- well, not short-term ones, but in terms of -- obviously, you made the comments about the success you're having with pricing. I just wondered how the softening of the magnesia price was trading off against that and how it's affecting those discussions with customers and how we think about the impacts of that. Maybe answer that one first.
Yes. So the dead-burned magnesia and fused magnesia prices, which are the 2 main products that are concerned here, have reduced since April this year by about 50%, 5-0. And of course, in quite a few of those -- of the big product groups that contain these products, we have passed -- we have softened our pricing as well, but our price reduction is dramatically much lower than the effect is in our cost. Therefore, we have very, very good margins. And this is -- this continues to be the case.
And then just as a wider question. Obviously, you talked about the uncertainty right now and the lack of visibility. But traditionally, as a business, what would be your experience of how long this sort of -- particularly the sort of destocking period can last for your customers? And when do you think that would be exhausted and you should move to seeing a sales progression that is more in line with the underlying sort of steel growth?
Okay. So I think it's a little bit different region by region. In Europe, we expect this destocking still to last until the end of the first quarter next year. And then we should be in line with the steel production, which means volumes should pick up again a little bit for us. In North America, the picture is more patchy because it depends on whether these are EAF customers in the South or integrated customers in the North. The picture is a little bit different. But for the more integrated companies, probably the outlook is the same. So we expect first quarter, maybe second quarter next year, but with a caveat that the visibility is really low. But we see inventory levels going down more and more. So even if steel or steel production continues to disappoint, the -- this inventory effect eventually will be finished sometime in the first half of next year.
Our next question today comes from Mark Davies Jones of Stifel.
Stefan, could you give us a bit more regional color? I think Vesuvius were putting much of the blame in their warning on Europe specifically and a sharp deceleration there. I think you've been seeing that for a while, but it sounds as though you're seeing more general slowdown. Specifically, are you still seeing stronger trends in some of your Asian markets? I know shares are lower there, but is that still relatively robust? Or is it a worldwide weakening you're seeing across steel?
Yes. So we see the same. Clearly, the strongest effect in Europe. No doubt about it. In the U.S., the effect is also there, especially in the Northern integrated plants, a little bit less in the more modern plants in the South. Brazil also is -- has been disappointingly weak. It has had a lower steel production rather than a higher one. So -- and of course, Brazil for us is important. So we've seen it there as well. The Asian markets, the Middle East is kind of a so-so. It's nothing to jubilate about, but we don't have any disaster there. But the Asian markets in generally are more robust, especially from a volume perspective. Korea is good. Vietnam is good. Thailand is good. China has been surprisingly good. Unfortunately, we're still too small there. So Asia is okay with the exception of India, but in India, there's a special effect. In India, there's a consumer credit crunch because of small and medium-sized banks not giving credit anymore. And that has led to especially automotive demand going down or automotive sales going down, but also long-lasting consumer goods going down. And therefore, the steel industry in India has come into a slump. That's been fixed by the government, but I think this will -- and it will take a little bit longer, I think, to have an effect again on -- positive effect on our business. So India is also going through a little bit of a difficult time, which probably should last another 6 months.
Okay. Another couple of questions, if I may. Firstly, does the deterioration in the environment change your attitude towards potential M&A over the next 6, 12 months? Does that get put on pause for the time being? And then secondly, could you just comment on -- sorry, go ahead on that one.
No. Go ahead. Go ahead.
The other one was just on the industrial side, which is an encouraging offset and very robust. But I think last time, you were suggesting sort of 6 months of visibility on that business. Has that come in a bit? Is it still robust today? Do you see signs of that weakening further down the line?
So let me start with the latter. We are nervous about this, Ian and I, so we want to refrain from giving too far of an outlook here. But the next 6 months look very, very good; very, very stable. Our team is more optimistic. But of course, the Industrial business is linked to the construction industry. Cement is such a big [ piece ]. Glass looks very, very stable, and this is a totally different cycle. So because of the whole environmental discussion, for us is actually very positive, very stable, so that should last longer. And nonferrous, of course, is linked to the nonferrous metals that have trended down through most of 2019 but are stabilizing now. So we see maybe a little bit less downside there. But take this as comments for the next 6 months, which we've just been wrong so much before. On M&A, our principal attitude hasn't changed, but there are 2 things that have -- that we have modified. We're a little bit more stringent now because, of course, cash flow is very -- is more important than maybe a year ago or even more important than a year ago. So we are more stringent with the hurdles. On the other hand, counterbalancing this is the acquisition prices, of course, are coming down, because what we experienced, all of our acquisition targets also experienced. So these things go hand-in-hand. But in general, we still would like to strengthen ourselves, if we can add technology portfolios or if we can close gaps in our regional footprint.
Great. Can I be greedy and ask one final one, which is just about timing of incremental savings? We look forward to hearing more details at the Capital Markets Day about the efficiency measures. But a lot of that, I think, has to do with footprint in developed markets. So I'm assuming that the savings related to that are more a '21 thing than a 2020 thing. In terms of what you can do to take cost out in the nearer term to offset this volume picture through 2020, is there anything you can do to accelerate or increase the savings going through over that time period?
Mark, it's Ian speaking. Yes, your thematic is correct. So 2020 will be a year of transition for us. So we will have the severance costs and some modest investment to effect the footprint rationalization with the full run rate established in 2021. But we are expecting benefits to come through in 2020, and we'll unpack that in detail at the Capital Markets Day.
Beyond the footprint rationalization, we are very, very carefully measuring, managing the SG&A block, with particular focus on reducing G&A costs. On the S side, we have reduced the -- we have increased the focus, so reduced the number of projects. But there are, of course, a number of things we absolutely want to do in order to enhance the business model. Again, we'll explain this very much in detail in London in 3 weeks.
Next question -- our next question today comes from Andrew Douglas of Jefferies.
I have 2 quick questions, please. With your comments regarding destocking, what is it that gives you confidence that destocking will be finished or you believe will be finished by the end of the first quarter? Is that what your customers are telling you? Or is that what you believe is going to be a -- the timing will be when there'll be literally no destocking able to happen? Can you give us just a view on that? And also, just trying to think about -- trying to think about next year. If we take your midpoint of the guidance, it's about EUR 170 million of EBIT for the second half, which I'm assuming is going to be slightly higher in the third quarter than the fourth quarter. Does that mean that we need to annualize the fourth quarter in order to get to a sensible point for next year, plus your cost savings? Or is that taking an overly miserable starting point?
Maybe, Ian, I'll let you answer this question afterwards, please. The destocking information actually is -- this is a really very good question because we struggle with this a little bit. We have 3 sources of data flow here. You know that around 20% of our business is a solution business. Here, we manage the stocks, and we know exactly what it is. So there, we can really predict. About another 15% to 20% of our customers are in what we call a supply chain service model, where we run the consignment, as a consignment inventory, the stocks at our customers. There, we can also see it, but what we don't know here is, do they plan to stop part of the plant? Are they reducing the number of converters or the number of ladles that they run? So there's a little bit higher level of uncertainty, but the visibility still is relatively good here. And the other half of the business is information that we rely on from our customers. And this is, I admit, quite, quite -- is more uncertain, and our customers know that also that this is uncertain. Their visibility is very low. In Europe, they speak about 3 weeks. Many of our European customers give us this time frame. And if there's a really significant reduction in steel pour happening in Europe, they will also expand this inventory reduction, because then they still have enough. But if the current expectation for Europe is another 2.5% reduction in steel production 2020 versus 2019. If this is the case, then this end of the first quarter inventory reduction should be more or less the time frame.
And if that's indeed not the case, how long do you think they can continue to destock? Do you have any gut feel for that?
No. Gut feel is no good, because there's too many [ details there ]. It's really data collection here. If the steel pour continues as -- or is at the level that I just described, then end of the first quarter, they have to order again.
Yes. Andrew, on your second question. So as Stefan touched on, we have material self-help that we're able to deliver, which is largely in our control. We'll deliver value irrespective of the market backdrop. So that includes the benefits of the synergies, our operational turnaround at the 4 plants, as the continuation of the impact of the price increase and then the footprint rationalization that we'll be talking about in November. So as we look at it, we see those benefits largely offsetting the impact of volume weakness, which comes through both in the form of lower sales volumes, but also increasingly importantly in the form of lower fixed cost absorption. So we will direct you more towards the 2019 aggregate annual impact at EUR 400 million to EUR 410 million rather than calendarizing the fourth quarter.
Our next question today comes from Harry Philips of Peel Hunt.
A couple of questions, please. First on working capital, when do you think you can really make a dent into it? And then secondly, possibly you won't answer, but in terms of plant optimization, how radical a plan are you envisaging? From memory, you have sort of circa 35 plants -- major plants around the world. What should we expect, say, in a year's time? Or do you want to save that for November?
On working capital, Ian, please answer this one. On the plant consolidation, yes, we have talked about a few plants that need to be shut down in Europe. The America plants need to be restructured so that they are specialized and can make less products per plant but much larger volumes. And in Asia, this is an increase of the capabilities in China for China and in India for India. So that's what we've said until now. So take this as a guidance for the time being, and then we will specify very much in detail at the Capital Markets Day.
Harry, on your working capital question, as you recall, we increased our investment in working capital by EUR 120 million in the first half to EUR 640 million. We continue to believe that we will recover that in full by the end of 2020, but now only with a modest reduction in the second half of 2019. It's taking us longer to reduce our inventory levels in what's a softening steel market. And what we see is the reductions that we are delivering importantly in accounts receivable and inventory are largely now being offset by reductions in our working capital financing as the level of underlying activity starts to contract. What gives us confidence around our guidance is the good progress that we continue to see around the implementation of new business processes in our supply chain area around integrated business planning, around total network optimization. And in 2020 and 2021, we'll start to see the benefits coming through around our transport and warehousing tools that we're putting in.
Indeed. There's really a difference in the way that the -- especially inventory, both raw materials and finished goods inventory are now progressing month-by-month compared to what we were able to do 9 to 12 months ago. This is much, much, much better under control. But of course, the lower overall sales volumes make it just slower because we can sell it off slower.
We have no further questions on the line, so I'll hand back for any further remarks.
Wonderful. I think this concludes the call. We're looking forward to seeing all of you over the next days and weeks and, of course, in 2.5 weeks in London, on November 14 Capital Markets Day. We'll be there with the full management team and we're looking forward to your challenges and to your ideas and to your further support. Thank you very much and goodbye from Vienna.
This concludes today's call. Thank you for joining. You may now disconnect your lines. Have a lovely day.