Aperam SA

MAD:APAM

Earnings Call Transcript 2023-Q1

[Timoteo Di Maulo, executive]

Welcome to Aperam Q1, '23 podcast. I am Tim Di Maulo, CEO of Aperam. Sud Sivaji, Aperam's CFO and I present to you a solid first quarter result that was generated in a challenging market environment. We will answer your questions at the webcast conference call today at 2:00 Central European Time. The dial-in details are on our website and on the last slide of this presentation. Please take note of our disclaimer regarding forward-looking statements on Page 2, and then we move to the highlights on Slide 3.

In Q1 this year, we realized a stable adjusted EBITDA in a quarter-on-quarter perspective, which is a new proof for the resilience of the company in an environment in which Europe was destocking and Brazil was in its seasonal low. And we had to afford a bunch of headwinds in the stainless business. First, Genk started the 6-weeks melt shop standstill for the planned erection of the new AOD. In France and in Belgium, we incurred some unexpected cost from strike actions and instead of a neutral was slightly positive inventory valuation. It was a meaningful double-digit negative number again.

Pricing pressure in China has been spreading in all the regions. This hampers price globally. Taken together, this factor makes the current operating environment quite challenging. And looking ahead, we suspect it will stay challenging for the coming months. However, good business and solid result in Aperam Recycling and our Alloys business, prove that we are heading into the right direction with strengthening our differentiated value chain. Stainless imports are not to blame at this time. At 17% market share, they are running at historical low. On one hand, this is the reflection of the poor market environment in Europe. On the other hand, the import window from China has closed for good and will not reopen.

On the positive side, the European Commission further strengthened antidumping protection by putting a 17.3% duty on the circumvention of hot rolled material through Turkey. It's a clear signal that Europe does not tolerate circumvention. Maintaining a fair global trade playing field is a dynamic system that requires constant calibration and we will need to continue to point to the commission into the right direction. In these challenging times, we have immediately acted in variabilizing cost using the flexibility of our tools and put even more focus on leadership journey, our self-help program.

We are making good progress towards the 2025 growth and improvement targets. We realized another EUR 12 million gains during Q1 in the Phase 4 program, leaving just EUR 16 million this year to reach the target. We are working on the Phase 5 program at the moment, and you can be sure that we will continue to improve and transform Aperam at the same speed in the coming years. We will share the details with you in due time. In the ESG space, we have published our 2022 ESG reports.

Now next page. We made good progress towards our targets, of which health and safety, decarbonization and gender diversity are also directly impacting management compensation. Looking at the bigger picture, I'm confident that we are on track to fulfill our set of goals in the environment and social categories. We continue with best practice and zero tolerance regarding breaches in the governance area. In the social dimension, we have a hard target of increasing gender diversity in our TOP1000 to 30%. In 2022, we continue to increase the share of woman by 1 percent point a year in line with our roadmap. In environment, there are not many steel plants carbon neutral today. So I am especially pleased that Brazil was sequestering more CO2 than it emitted. Aperam, as a whole, continues to be the CO2 benchmark the industry with CO2 intensity of just 320 kilo per ton of steel on a scope 1 plus 2 basis.

Regarding dust emission, our team, especially in Brazil, has done tremendous work, and we were able to reduce the intensity by astounding 31% year-on-year. The progress required significant effort and resources, especially as the low production volumes in the second half worked against the intensity on a ton per basis. Water intake is a case in point. Also, we are able to reduce absolute consumption by 5% versus the previous year. The low volumes turned into a temporary higher intensity.

Let me say a word on biodiversity, where we achieved recently our forest in Brazil is perceived as a monoculture. We used diversified eucalyptus spreads that do not impact local biodiversity. Furthermore, and even more important, we keep 1/3 of our total land as in touch natural reserve. We don't enter it. We do not work it. We don't use it. The legal requirement in Brazil is for a 20% [indiscernible].

At Aperam, we voluntary keep an area that is more than 60% larger than the legal requirement. We take our responsibility seriously and work closely with the external expert to continually improve our practices. Biodiversity goes beyond the forest, and we have now put in place a systematic monitoring at all our main industrial sites. It follows the GRI and the responsible steel framework to identify local vulnerability or invasive spaces and the impact of our sites on the natural habitat. Once a baseline has been established, we will work with local expert NGOs to develop dedicated biodiversity plans. At Aperam, we take our ESG responsibility very serious. Let's turn to next page for the current market environment. Sequentially, the volume side was in line with expectations with a seasonal pickup in Europe and a seasonal trough in Brazil. However, from an absolute point of view, volumes remain at a very depressed level as distributor destocking continued through the quarter in Europe. Effectively, this was the lowest Q1 steel shipments on record since the inception of Aperam. On the positive side, the low shipments promoted industry destocking. Distributor inventories have normalized in absolute term, but the low demand still keeps inventory days on an elevated level. These, together with sliding prices does not promote distributor to change their buying behavior. While sentiment is post the trough, we do not see a marked change in demand.

Distributor by only consciously and prefer to live hand to mouth. On the real demand side, the picture has not improved over the past 3 months. Construction demand is the weak spot in Europe and South America with a soft pipeline that in the case not immediate change. In consumer goods, European demand is below average due to the weaker consumer spending and elevated inventory while in Brazil demand remains surprisingly strong. In automotive, it is the other way around with a solid demand in Europe, but a softer demand in South America. However, there are demand from other transport applications, which remains quite strong. Food, health and catering demand is steady on a below average level as restaurant activity and beverage are tied to lower consumer spending.

The Industrial segment in Europe is holding up reasonably well, supported by energy application, but activity in South America is normalizing from a high level previously. All in all, real demand correspond to the recent industrial data. It is on an unexciting level without a clear catalyst in either direction. Looking towards Q2, we expect a seasonal improvement in shipments, but coming from a low absolute tonnage, this will partly spill over into Q2 as well. I commented on imports already with the circumvention duties against Turkey being a clear sign that this is on the commission agenda and our expectation that in a more dynamic regulatory environment, import disruption should be much lower in future compared to the past.

I hand over to Sud for the review of the financial performance.

[Sudhakar Sivaji, executive]

Thank you, Tim, and a very warm welcome to all of you. A quarter with shipments in line with expectations and earnings above consensus despite challenging conditions in our stainless business. Thanks to contributions from our Recycling and Renewables segment and the Alloys businesses, adjusted EBITDA remained stable despite lower realized pricing in stainless Europe, the impact of strikes in Europe, the multi-week investment shutdown and the seasonal drop in Brazil. Inventory valuation was also negative at a low to mid-double-digit range driven by the drop in raw material prices. The quarter did not contain any one-offs, but the financial result included a $98 million gain driven by FX and derivative valuations.

Nickel declined 21% during the quarter and so just this is the opposite effect from the loss that we reported in Q4 when nickel was going up. As we said before, the impact from nickel volatility will wash out over the cycle. The tax rate at 21% is in line with guidance, but EPS includes the EUR 0.06 from derivative and FX valuation gains. Cash flow was a highlight with a cash conversion of 109%. Despite a small networking capital build only showing up due to the investment in Genk and a $52 million CapEx, we could generate $85 million free cash flow, paid $36 million dividend and still reduce net financial debt by 10%. The 13% annualized free cash flow yield is proof of Aperam's consistent cash generation ability.

Moving to the next slide. A tough environment puts more emphasis on the variables that we can control directly and influenced by the leadership journey, our self-help and improvement program. We made further progress during the quarter with EUR 12 million gains, sourcing in raw material efficiency as well as footprint measures were the main contributors this quarter. Having realized total gains of $134 million means that Phase 4 target gains of $150 million have almost been realized now. Where can you find this, let me give you a few examples. Alloy's growth is visible in the numbers with an underlying EBITDA in line with last year's all-time high. The inventory valuation is hiding this as all 3 main metals in the segment, nickel, cobalt and molybdenum went down on prices.

However, a strong demand, as evidenced by our long order book continues to support our plans to double the EBITDA in this segment until 2025. S&S is another example. Despite a very tough spot market, S&S generates a normal adjusted EBITDA and stripping out double-digit valuation losses, the segment demonstrates a significantly improved performance versus comparable low cycle periods in the past. Brazil, the electrical steel upgrade has given us more production choices on a better mix, and the optimization potential is one major reason for the good performance compared to the historic normal in Q1.

Some people are asking if we are done with self-help, definitely not. The leadership journey is at the core of the company. Constant improvement is built into Aperam's DNA to remain competitive. Looking back, we've realized about $50 million gains a year and we do not plan to slow down. The 2025 program requires some more investments in realizing the mix improvement we are planning for, and the AOD is not yet complete and the hot rolling mills in Brazil, Châtelet and alloys are 3 more examples that are still being worked upon and invested. And we have a few more ideas on how to complement this journey towards a more efficient footprint that is capable of supporting a higher value product portfolio. So expect to see additional tangible investments in Phase 5 to put Aperam in a position to deliver the EUR 300 million EBITDA improvement that we committed to by 2025.

However, another point is that scale effects work both ways. The current low volume streak thus increases the need for variabilizing and reducing costs, and we continue to identify specific cost measures that we will realize over the coming quarters to strengthen the resilience and flexibility of our business model.

Let's move to the segment performance on the next slide. Recycling and Renewables delivered again a very strong quarter with EUR 45 million adjusted EBITDA, effectively more than half of what we have guided for as a normal annual result. This shows that the value chain extension has paid off and that ELG activities benefit from the integration into Aperam value chain. The quarter-on-quarter EBITDA decline is only due to an absence of a positive valuation effect that were contained in Q4 in our Renewables segment. The comparison with last year is favorable. The LME stopped nickel trading on the -- in March 2022, which impacted the business negatively. Looking ahead, we expect softening scrap prices in Europe, but Aperam recycling is not dependent on the scrap price itself, and we project R&R to deliver a solid but normalizing result even in an adverse pricing environment.

Stainless and Electrical has delivered the promised improvement in Europe, yet the distributor destocking, strike action and another negative inventory valuation loss capped upside. Brazil continued at a solid level, but Q1 is the seasonal trough quarter. This caused both volumes and EBITDA to decline quarter-on-quarter there. For Q2, we expect Stainless and Electrical volumes to increase and prices to decrease on both sides of the Atlantic. This is due to Asian prices anchoring the global stainless market. We project higher strike-related costs and an unchanged inventory valuation loss. Adding some cost relief should result in a comparable or slightly decreasing EBITDA.

S&S is closest to the spot market and the shipment level signals improvement but still on a historically low absolute level. EBITDA improved quarter-on-quarter and turned positive again, the higher volumes and a less negative inventory valuation loss were the major drivers in a pricing environment that remains challenging. With an unexciting spot market and continued price pressure, we expect higher Q2 volumes to translate into a comparable Q2 results.

Alloys & Specialties delivered a significant volume increase in line with our statement that important parts of the capacity are fully booked. It is a shame that underlying profit improvement is not directly visible due to a significant negative inventory valuation charge this quarter. On an underlying basis, excluding the inventory valuation, A&S profitability has significantly improved, and we reiterate our guidance of a better 2023 EBITDA compared to 2022. For Q2, we expect a higher EBITDA that is still capped by another slight negative inventory valuation result.

[Timoteo Di Maulo, executive]

Okay. You will be able to start again when you want.

[Sudhakar Sivaji, executive]

Others and eliminations have finally turned to their negative normal state in Q1. This is a simple reflection of the normalizing intercompany elimination. However, assuming stable raw material prices, but product price is going down, this should reduce in Q2.

I now hand back to Tim for the outlook.

[Timoteo Di Maulo, executive]

Thank you, Sud. Q4 was tough. Q1 was tough and immediate outlook calls for no change. The industrial data remains soft. Demand is stable at an exciting level and global prices are under pressure. The last point is the key driver for our Q2 outlook. While we expect another normal seasonal volume increase, absolute tonnage remains at a rather low level, and the positive scale effect should be more than compensated by lower prices. This will affect both Europe and Brazil. Additionally, labor unrest remains high and unpredictable. Quarter-to-date, we already had a noticeable disruption of our operation in Q2, adding a softer mix in Brazil and not relief from inventory valuation, but another low-to-mid double-digit charge, we think that the cost relief from energy will result in a slightly higher EBITDA.

We expect marginally higher net financial debt. On one hand, we foresee higher net working capital to buffer another planned investment stands still in Q3. Additionally, we will spend the required CapEx to put the 2025 plan into action. The other items from the financial policy are unchanged. The market remains more challenging than we hoped and for what we assume that this might rise some questions. We are confident in realizing the EUR 300 million improvement to 2025 to our differentiated value chain. We are on the road in May and June and happy to answer your questions. It will be great to see you in person at one of these events.

Thank you for listening, Aperam Q1 management podcast. We will host a conference call today at 2:00 continental (sic) [Central] European time to answer your questions. We wish you a pleasant day and hope to see you again in the Q&A.