Terna Rete Elettrica Nazionale SpA

MIL:TRN

Earnings Call Transcript 2018-Q2

[Operator]

Welcome to the H1 2018 consolidated results. I must advise, this conference is being recorded today on Wednesday, the 25th of July, 2018. I would now like to introduce and hand the conference over to your speaker today, CEO, Luigi Ferraris. Please go ahead, sir.

[Luigi Ferraris, executive]

Good afternoon, everybody, and welcome to the 2018 interim results presentation. As we discussed during the 2018-2022 Strategic Plan in March, the Italian electricity market is evolving rapidly. Indeed, our efforts are aimed at facilitating the energy transition from a traditional system to a more complex and integrated one, based on renewable sources. This transition is already in place. In fact, national demand stood at about 159 terawatt hours, almost 1% higher than the same period of 2017, of which about 37% covered by renewable sources versus the 33% for the same period of last year. Moreover, national net production in the period was 136 terawatt hours, with a strong increase registered in hydroelectric and wind production, 36% and 9.2% up, respectively.

Now I would like to share with you some updates from our operations. And I am on the following chart. After the Strategic Plan presentation in March, we are now turning plans into actions. Regarding domestic regulated operations, we are focused on the delivery of the properties aimed at reinforcing the Italian grid. Indeed, the CapEx level in the period is well on track, vis-à-vis full year 2018 total group CapEx guidance at about EUR 1.1 billion. As far as non-regulated operations are concerned, the turnaround process of Tamini is ongoing, and it is providing positive outcomes, proven by the positive EBITDA contribution in the half, and the order intake increased 38% up versus the previous year. Moreover, on connectivity, we are well on track with the implementation of connectivity services contract with primary operators. Last but not least, regarding our role as energy solution provider, we are working to enhance our offer of integrated energy solutions.

For international, we continue to be focused on execution in Latin America. In Brazil, we are close to completing the first line of 158 kilometers in the state of Rio Grande do Sul. The whole project, for a total of more than 500 kilometers of line, will be completed by the end of the year, with a full profit and loss contribution from 2019.

In Uruguay and Peru, operations are proceeding in line with the plan. We confirm that profit and loss full contribution for these projects is expected to start from 2020 and 2021, respectively. Moreover, in line with our strategic position, we adopted a new organization, appointing the head of innovation and energy solutions. I believe that this new structure will be the key to boost innovation as one of the main enabling factors of our plan.

All of our actions are already translating into positive economic results, and I am in the following chart. First, net income is up at EUR 360 million, while group CapEx stands at EUR 338 million, respectively, 3% and 4% more versus previous year. As you may appreciate, these figures represent a solid ground to support the growth of the group for the rest of the year, in the meantime, ensuring excellent value for its shareholders. Moreover, both group revenues and EBITDA increased by 3%, which means EUR 35 million and EUR 20 million higher than last year, respectively, while net debt was about EUR 7.9 billion, not far from 2017 year-end.

With regard to CapEx, Terna has more than 200 open working sites and more than 350 companies involved in O&M activities and development of the transmission grids in the entire Italian territory. Two examples of ongoing projects are the Italy-France interconnection, and the [VECOCAP] cables in Venice. In details, the Italy-France interconnection that will be completed by December 2019 will be the longest direct current underground power line cable in the world, fully integrated into an existing highway. We are now working on the highway near Turin. Grid development involves also smaller projects in terms of CapEx but high benefits for the system. One example is the Venice cables, due for completion by the end of 2018. This work will enable the removal of the current overhead lines and help to make the network more secure and efficient. Due to the [worldwide] unique characteristics of the landscape and to the environmental constraints of the site, this is a clear example of Terna's commitment to a grid development that follows a sustainable approach. Now I leave the floor to the CFO, Agostino Scornajenchi, for a deeper analysis of [indiscernible]. Agostino?

[Agostino Scornajenchi, executive]

Thank you, Luigi, and good afternoon, everybody. Let's start with revenues analysis. Total revenues in the first 6 months of 2018 increased by 3.3%, reaching EUR 1,080 million, up by EUR 35 million versus the same period of last year, of which EUR 979 million related to regulated activities, EUR 95 million to non-regulated activities and EUR 6 million to international operations.

Let's go into details with the regulated and non-regulated revenues evolution. Moving to the next slide. I'm now on Page 9. Regulated revenues reached EUR 979 million, EUR 12 million better than last year. This increase was mainly due to the recognition of higher transmission and dispatching fees due to tariff evolution and a one-off component related to dispatching activities. Other revenues increased by EUR 3 million, mostly thanks to higher insurance reimbursements registered in the period. Non-regulated revenues stood at EUR 95 million, EUR 18 million higher than last year. The increase was almost equally split between Tamini and other non-regulated activities. Regarding other non-regulated activities, the main contribution came from the Avvenia consolidation and Italy-France interconnection. Regarding Tamini, thanks to the positive turnaround process already mentioned by Luigi, the increase of order intake versus last year turned into EUR 56 million of revenues.

Now let's go through operating cost analysis, moving to Page 10. As shown in the chart, total operating cost stood at EUR 265 million, with an increase of EUR 15 million versus last year. The increase was mostly attributable to non-regulated, as a consequence of higher volumes of activities.

Let's move to the next slide for a deeper analysis of the group OpEx. We reported regulated OpEx of EUR 194 million, slightly higher than last year and mainly related to the reinforcement of maintenance activities. Regarding non-regulated, operating expenses amounted to EUR 68 million, EUR 9 million higher than last year, mainly due to higher Tamini costs related to the increased turnover volumes.

Let's now move on to the EBITDA analysis on Page 12. Considering the above-mentioned effects, group EBITDA reached about EUR 815 million, EUR 20 million better than last year, with a group profitability margin of 75.4%. We registered a positive EBITDA contribution, both from regulated and non-regulated activities, which grew each by EUR 8 million versus last year. The improvement was mainly attributable to higher [liquidity], increasing Tamini contribution, the Avvenia consolidation and also the positive EBITDA contribution from interconnectors.

Let's now move on the lower part of the P&L. Depreciation and amortization amounted to EUR 267 million. The increase versus last year was mainly due to the impact of a new asset becoming operational. As a consequence, EBIT reached EUR 548 million, 2.5% than first half 2017. We reported net financial expenses at EUR 43 million; the EUR 3 million was mainly related to the gross debt increase, with an average cost of net debt at about 1.3%. Taxes stood at EUR 143 million, with a tax rate of about 28%. The tax rate reduction was mainly due to nonrecurrent items that did not contribute to the tax base. For the full year, we can expect a normalized tax rate around 29% to 30%. As a result, after the exclusion of about EUR 2 million of minorities, group net income reached EUR 360 million, EUR 9 million better than last year.

Let's now move to CapEx analysis, Page 14 of the document. For the first half 2018, total group investments amount to EUR 358 million, EUR 12 million higher than last year. EUR 291 million was related to regulated activities, of which about 16% to projects that might be eligible to the 1% input-based incentive, but they have been included in the current incentivized categories. Other CapEx stood at EUR 47 million, which includes capitalized financial charges and other investments.

Let's now move on to net debt and cash flow analysis. Net debt at the end of the period was EUR 7,896 million, EUR 99 million higher than 2017 year-end. Indeed, thanks to the operating cash generation for about EUR 600 million, we were able to cover the CapEx spending of the period, and most dividends paid in the first half.

Let's now make a deeper analysis on our debt profile at Page 16. Our financial structure remains solid, notwithstanding the growth investments and the capital remuneration of the period. Indeed, the fixed/floating ratio of gross debt remains at 100%, while the debt maturity stands at 5.6 years. Our maturities and our level of fixed to total debt allow us to keep control on our financial charges and maintain a solid balance sheet. On top of this, as you know, last week, we launched our first green bond for EUR 750 million. This bond has been very successful in the market, with an oversubscription of 6x and has been issued with a duration of 5 years and a coupon of 1%. Also, thanks to this deal, Terna has already covered the full financing needs up until 2019. I now leave the floor for Luigi for his closing remarks.

[Luigi Ferraris, executive]

So thank you, Agostino. So after having illustrated the results of the period, let me share with you some closing remarks. As you appreciated from this presentation, I can confirm that we are well on track with the plan execution. We will continue to be mainly focused on domestic regulated activities to ensure security of supply and benefits for the entire system, always taking care of local communities and environments. Moreover, non-regulated activities continue to provide a supportive contribution to the business, enabling us to create innovative and new value-added solutions for the energy transition. International project execution is ongoing as expected, always exploiting core capabilities. The organization now is well-settled. Therefore, we can cover all the needs and challenges that we have in front of us. And we are and we remain committed to delivering the plan, focusing our managerial actions on maximized value for all of our stakeholders. Thank you for your attention, and we are now ready to open the Q&A session.

[Operator]

[Operator Instructions] Your first question is from the line of Javier Suarez from Mediobanca.

[Javier Suarez Hernandez, analyst]

Three, the first one is on Slide #9. You are detailing the increase on regulated revenues for the company. There is a -- the question is, can you -- I think that you have mentioned that, but can you repeat that, is there any one-offs to be considered in that increase on that regulated revenues? I think that you mentioned EUR 3 million as a regulatory one-off; if you can clarify what should be considered as a one-off in this number, that would be helpful. Then the second question is on the non-regulated activities, the increase of EUR 9 million in non-regulated activities. Can you specify the amount that is corresponding to the Italy-France interconnections and the amount that corresponds to Avvenia? And then the third and final question is on Tamini. I guess that given the first half of the year, you have a black number contribution in the -- into the EBITDA. Can you give us a sense of what do you believe could be the EBITDA of Tamini by the year-end?

[Agostino Scornajenchi, executive]

Okay. So regarding the first question, no, there is no relevant one-off in the evolution of our regulated revenues. Only a slight adjustment coming from past year evolution of dispatching fees. So nothing relevant. Regarding the second question, of course, in our non-regulated business, you can see the evolution of the additional contribution coming from the Avvenia business. It's a recent acquisition, so something that was not in place last year. The increasing contribution is the construction margin related to the evolution of the [ realization ] work on the interconnections. And the latest information is regarding Tamini that has given a slightly positive contribution as a consequence of the increase of the order intake that started from the second half of '17. Maybe Luigi would like to add something on that.

[Luigi Ferraris, executive]

Nothing specific. I think you said basically everything. On the positive side, we registered this increase of about 40% to the order intake. We see a continuous growth probably also in the second part of the year in terms of order intake. When it comes to the operating results, we confirm the target to reach breakeven by the end of the year.

[Javier Suarez Hernandez, analyst]

And I have noticed that, that the presentation does not include specific reference to the guidance for 2018. I think that on the first quarter of the results presentation, you indicated the targets -- or you reiterated the targets for EBITDA, EPS and CapEx in 2019. Are you reiterating again all these 3 targets again today?

[Luigi Ferraris, executive]

You're referring basically at the group level now. So talking about the Terna [ as a whole ].

[Javier Suarez Hernandez, analyst]

Yes, yes.

[Luigi Ferraris, executive]

A couple of comments I would say. Of course, when we talk about 2019 and we have just presented the business plan. So there is no reason to release that after a few months. There will be an update at the beginning of next year as usual. When it comes to 2018, I think we reported a solid set of results. We have reported a first half with an increase of about EUR 20 million EBITDA versus last year. So I think it is reasonable to say today that this improvement can be considered locked in for the entire year. We will see in the second part if there will be a further improvement eventually. But I'm not going to revisit that, we're not going to revisit the guidance today.

[Operator]

Your next question is from the line of Stefano Gamberini from Equita SIM.

[Stefano Gamberini, analyst]

Just still on the full year guidance. Again, in the total CapEx, EUR 1.1 billion, could you give us also a flavor what could be the regulated part of this total CapEx for the full year? And if you can spend some words regarding '19 CapEx, if you expect an acceleration at this level or not? The second regarding the capacity market. Could you help us to understand if there are some delays? Or you still expect that the capacity market could start at the beginning of next year? Finally, I noticed regarding the national development plan that there was a huge increase of total investments related to the different projects that are included, USD 12 billion in the next 10 years. And in particular, there are 3 subsea cables that are included. Just, you think that these cables could be the negotiation with the government regarding the construction of these cables could start shortly? Or is it something that could arrive probably in the second part of the [ grid ] plan development -- sorry, national development plan.

[Agostino Scornajenchi, executive]

Okay. Let me try to give an answer together for the first and the third question. So regarding our CapEx activities, the guidance, the communicated guidance, for the year 2018 is EUR 1.1 billion. As you have seen, we are close to EUR 400 million, something less, for the first half. That is in line with our expectations. As you know, most of the CapEx are concentrated in the second part of the year. We are fully in line with our internal schedule. Regarding 2019, as you know, there is no guidance for the moment communicated to the market. This is something that would happen, as anticipated by Luigi, when we will present an update of our business plan, 2019-2023. But as is possible to say, coming to your last question, of course, there is an impact coming from the already communicated acceleration in our CapEx plan. As you know, in the mid-, long-term horizon, we're moving from a company that was historically spending something in the region of EUR 800 million, EUR 900 million per year, to a company that will spend an average of EUR 1.2 billion, EUR 1.3 billion, depending from the schedule of the single projects. Regarding the cable interconnection, I think that you're referring to the connection of the link between Sardinia, Sicily and the peninsula. Of course, this is a huge investment that will take part, that will start in the second part of our business plan, long-term development plan. So it's something that will start after 2022.

[Luigi Ferraris, executive]

A few words about the capacity market. Well, internally, as Terna, we have basically finalized all the activities. Of course, we have to wait for the new regulatory board. And then, technically, there is still the margin to start beginning of next year.

[Operator]

Your next question is from the line of Rui Dias from UBS.

[Rui Dias, analyst]

I have a question, if I may, just on regulatory risk in Italy. Following the recent changes in government, do you think the regulatory risk for the power sector in Italy has increased? Do you think that the current government could push for changes in the current framework or [ allowed ] returns? It will be very interesting to have your thoughts on this, if possible.

[Luigi Ferraris, executive]

Sorry, we do not see any major political risk affecting the current regulatory framework. And specifically, if I may, our business plan. Of course, every year, we have to revisit the plan, but in general terms, the framework that we are referring to and the focus that we have in our Strategic Plan, which is to support the decarbonization and the transition in the energy sector, is in line with the direction also of the current government. So of course, we have to wait for the new authorities, but we do not expect change in the general regulatory framework.

[Rui Dias, analyst]

Just to follow up on the authority. When should we expect the appointment of the new board, and when is this administration expected to be effectively in charge?

[Luigi Ferraris, executive]

I am not in charge of appointing the authorities, but what I -- technically, if I'm not wrong, this authority is expiring by the end of August. Therefore, we -- there should be in place a new authority by that time. So it will be beginning of September. Then all the passages related to the authorization process, including the Parliament, it is then during the course of this appointment process.

[Operator]

[Operator Instructions] Your next question is from the line of Enrico Bartoli from MainFirst.

[Enrico Bartoli, analyst]

I have 3 of them, please. First of all, could you comment a bit about your cost of debt? It was particularly low on a calculated basis in the second quarter. You had the issue of the green bond in the past few weeks. If I remember well, you have a guidance of 1.6% for this year, if there are any changes, particularly on the downside on this level. The second question is related on regulation. Recently, the authority issued a consultation document for gas transport when they proposed -- continue to propose the remuneration of the work in process. Do you think that something similar could happen also to utilities transmission? Do you have any discussions in place with the authority on this matter? And the last one is just on you show the evolution of utilities demand. In the first half, it was up in Italy. But in June, it was down by more than 3%. Could you elaborate if you see some, from the figure in June, some slowdown in demand, particularly from the industrial sector? Or it's something only related to seasonality or temperature?

[Agostino Scornajenchi, executive]

So regarding your first question about the cost of debt. As you know, we have communicated an average cost of debt for the business plan horizon of 1.6% and a guidance for 2018 of 1.4%. We confirm this guidance. Of course, the recent [ issuance ], the successful [ issuance ] that we have concluded last week, with an average cost of 1.1%, will help us to confirm and to support this guidance. On the second question on work in progress, there is nothing new about the evolution of the regulation on this aspect. The main element of regulation is something that is known starting from mid-March, with the resolution of the authority. On the first resolution of the authority, related on the output-based framework. As you know, there is a consultation process ongoing, where each of the companies will have to present certain places of investment entitled to have access to this specific additional remuneration work in progress, for a specific place of investment that will have a specific duration, a specific interest for the system. This consultation is ongoing, and the process will be concluded with an official approval of the authority that will issue a new resolution on that. Starting from that resolution, of course, we will update you about the amount of debt.

[Luigi Ferraris, executive]

Well, the last question was related to the demand -- electricity demand evolution. I would say that what we saw in June is mainly related to weather conditions. So there are no major changes with the trend that we used to see, which is, roughly speaking, 1% growth. So nothing special to highlight. The temperature in the month of June was lower of about a couple of centigrades versus the previous year.

[Operator]

Your next question is from the line of Dario Michi from Fidentiis.

[Dario Michi, analyst]

My questions have already been answered.

[Operator]

[Operator Instructions] Your next question is from the line of Antonella Bianchessi from Citi.

[Antonella Bianchessi, analyst]

Just a quick clarification on the one-off. You mentioned a one-off in the regulated activities. I didn't really got the clarification you gave to Javier. Dispatching revenues were up, other revenues were up; can you elaborate on what this is about?

[Agostino Scornajenchi, executive]

Yes, we're talking about insurance reimbursements and the settlement for the fees for the participation for the financing of the energy authority. That has been settled in the first half 2018 and related to the past year.

[Antonella Bianchessi, analyst]

And how much of it in terms of nonrecurring?

[Agostino Scornajenchi, executive]

Looking in the region of EUR 2 million, EUR 3 million.

[Operator]

Your next question is from the line of Stefano Gamberini from Equita SIM. There is no response, we'll move on to our final question from the line of Enrico Bartoli from MainFirst.

[Enrico Bartoli, analyst]

A couple of brief follow-ups. First of all, on the regulatory working capital dynamics on the recovery that is still pending, if you have any visibility over the next quarters and possible some comments on the evolution on the debt by the end of the year? And secondly, on international. In Brazil, the government and the associations are reiterating the need of huge investments in transmission lines in the country. I was wondering if you are looking at some possible projects, if this could be in the next future or some possible development.

[Agostino Scornajenchi, executive]

So regarding the first question on working capital dynamics. First of all, let me remind you that the working capital is more or less stable in first half 2018 with respect to the end of 2017. Our working capital is impacted by several different pass-through item dynamics. We have a positive impact that will be slightly absorbed in the coming years. As we have already explained during previous presentations, this is something that will depend from the time, and the authority will issue a resolution, in order to allow us to pay private operators for their -- the staff and services. And this is something that we expect that will be restarted by the new authority, the moment the new authority will be in place.

[Luigi Ferraris, executive]

Brazil, yes, you are right, in Brazil, there is going to take place different options in the course of this year and also the coming years. When it comes to our involvement, we look at that, but of course, in line and according to what we said in the Strategic Plan, i.e., first of all, strict financial discipline, so we set an internal hurdle rate that we have to fulfill; and second, to the capital that we have allocated, which is in the region of EUR 130 million still to be spent in terms of CapEx in that part.

[Operator]

There are no further questions on the phone lines. We have got 2 further questions. First on the line is Juri Zanieri from Kempen.

[Juri Zanieri, analyst]

Just one quick update in view from your side regarding the 2019 WACC review. If I'm not mistaken, during the plan update, you have guided for lower WACC, but in consideration of the increasing spread versus the German loan, have you adjusted your expectation for the new returns? Any comment and colors on it would be much appreciated.

[Agostino Scornajenchi, executive]

Yes, at the end of the year, the authority will update the allowed WACC for the period of 2019, 2021 at the end of the observation period started in September '17, and that will be completed in September '18. You know that there are a lot of elements included in the WACC [form ]. The most relevant one is the evolution of the country risk premium. This is something that we analyzed the moment we prepared the business plan. That's why in the consequence of the situation we had at that time, it was set -- the percentage of 5.1%. Of course, now we are in a different situation, taking in consideration the recent evolution of the Italian spread, so we expect that at least the current level of 5.3% will be confirmed.

[Operator]

The final question is from Stefano Gamberini from Equita SIM.

[Stefano Gamberini, analyst]

Just one quick thing, if I may. Regarding the situation of the renewables. In general, if I'm not wrong, your projects ensure an integration of around 20 gigawatt of renewables in 5 years. So do you expect the government to go ahead with the decree for the kickoff of their renewable -- of investment in renewables by year-end? Or are there some risk of postponement of all this investment, and as a consequence also, your investment could be postponed? If you can just give some color about the situation of renewables.

[Luigi Ferraris, executive]

I think that if I'm not wrong, even today, the Minister of Industry announced the issuance of a decree by next weeks -- by September, mid-September. So it should be confirmed. Now the size, of course, has to be disclosed properly. But if I'm not wrong, today, we have been talking about 6 -- 5 to 6 gigawatts.

[Stefano Gamberini, analyst]

Excuse me, do you expect how many giga?

[Luigi Ferraris, executive]

For this specific decree, for this specific -- I am reporting what I read in the press. So today, I understood that there will be a decree issued by September, maximum middle of September. And the size related to -- in this decree could be in the region of 5 or 6 giga. Of course, it will be a part of a plan that, for sure, will be implemented in the next future by the current government. So this is just a small portion of what we should expect to see in the future. It's the beginning.

[Operator]

And there are no further questions, please continue.

[Luigi Ferraris, executive]

So if there are no other questions, thank you for your attention, and we'll talk next time. Thank you, and good afternoon, everybody.

[Operator]

That concludes your conference for today. Thank you for participating. You may now disconnect.