Elkem ASA

OSE:ELK

Earnings Call Transcript 2020-Q1

[Odd-Geir Lyngstad]

[Presentation] It's indeed a special time. COVID-19 has impacted businesses all over the world and the way each and every one of us live our lives. We are all trying to adapt and be supportive. And in this short video, you have seen some examples on how Elkem is contributing to the fight against COVID-19. And with that as an introduction, it's a pleasure welcoming you to Elkem's first quarter results presentation. My name is Odd-Geir Lyngstad and I'm responsible for Finance and Investor Relations. With me today, I have Michael Koenig, CEO; and Morten Viga, CFO. Michael is with us on video and will take us through business update and outlook. Morten will take us through the financials. We will take questions after the presentation. So if you want to ask questions, please use the button in the right-hand -- bottom right-hand corner. And with that, I leave the word to Michael, and I hope the technique works well for all of us.

[Michael Koenig, Chief Executive Officer]

Well, Odd-Geir, thank you very much for your introduction. And ladies and gentlemen, welcome to the Q1 presentation. It is indeed a special time and a special format, but it also demonstrates our agility and flexibility to cope with a very challenging environment. Summarizing Elkem's quarter 1. The headline of this chart is representing it very well, holding up in a truly challenging market environment. Elkem has generated stable operations and results in the first quarter 2020 compared to previous quarters despite a truly challenging market environment, which was created by the crisis around the COVID-19 disease. The impact of COVID-19 in the first quarter was very significant in Asia. Elkem's EBITDA in the first quarter was NOK 590 million. That's down versus the first quarter in 2019 but clearly up compared to the preceding quarter. The highlight of the quarter was the acquisition and closing of Polysil that we had reported already in the quarter before, and that acquisition will be consolidated in Elkem from April 1, 2020. During the quarter, we have launched a productivity improvement program that is targeting at annual savings of NOK 350 million, and those savings will mainly come from reduction in personnel costs. Our market outlook at this stage is characterized by a very high level of uncertainty, but we are very confident that Elkem's operational and financial position, as robust as it is, will help us through the difficult times and position us for better times once the crisis is over. Page 4, please. Environment, social and governance are key priorities for Elkem, and we are increasing and improving our efforts in that regard. For example, our fossil CO2 emissions in Norway have been reduced by 18% through the use of biocarbon already. And we have an ambition to increase the usage of biocarbon to 40% by 2030. 83% of our electricity consumption comes from renewables in 2019. On safety, we are paying the highest priority on safety and health of our employee, that is particularly important in difficult times like now during the coronavirus crisis. Page 5, please. Let me talk a little bit about the impact but also our response on the COVID-19 crisis. Elkem has more than 3,000 employees and extensive operations and business in China. For that reason, we were very early exposed to the crisis triggered by the coronavirus. However, the first confirmed case that we were experiencing was in Norway and has led to a temporary closure of our head office in Oslo on March 6. We have, very early on in the crisis, established a crisis management team that is coordinating, until today, the response to the crisis worldwide. Up until now, we have mostly retained normal operations during the first quarter. China was clearly impacted not only in business but also in operations during the time after the Chinese New Year in the month of February but is now back to normal. In India, Malaysia, Paraguay and partly in South Africa, we have faced disruptions due to government restrictions, and we were having some impact on our operations but that had only limited impact on the group level. We are facing and we have faced logistical challenges, which are manageable but lead to delays in customer shipments. Of course, the COVID-19 crisis is negatively impacting several industries that are served by Elkem. The automotive industry, the steel industry, are having reduced demand throughout the world. What we are doing at Elkem is that we are proactively trying to find business opportunities that help us compensate for reduced sales in areas that are affected by customers that have reduced demand. Of course, our primary focus in these times is the health and safety of our employees. We have implemented increased standards of hygiene. We are encouraging home office where appropriate. That's why I am today on video and not with you. We are -- we have, early on, issued a global ban on international travel, and we ensure compliance with all local government measures. Page 6, please. However, we have a very strong basis for managing this crisis. This is helped by our diversified product portfolio, with a specialized and diverse product mix but also by the fact that we have diversified end markets. While we have seen an impact of -- in China, in particular, in February, we are seeing China getting better already in March, and then we -- that will enable us to support our business when the crisis is having an impact in Europe and in the United States. We are serving customers truly worldwide. Financially, we have a robust position with a strong balance sheet with an equity ratio of 40%, strong liquidity, strong undrawn credit lines. And we have a comfortable financial covenant headroom that allows us to weather through this crisis and also capture opportunities in the market. Page 7, please. And it's not just the financial position that makes us confident that we will come out of this crisis stronger than before. Our products are key enablers for health and sustainability. In several medical applications that are used in hospitals, silicones are an important part of the application and that is part of our specialization strategy. We are delivering raw materials to masks, to tubes and to medical devices. That business has seen double-digit growth from Q1 2019 to Q1 2020 based on the strong general market growth but also based on our expansion into new product areas. The acquisition of Polysil that we have closed in the first quarter is going to further strengthen Elkem's position in health care and health care-related areas, mainly in liquid silicone rubber for medical accessories. Silicones are also key in computers and mobile phones, which apparently is important in digital communication that becomes so much more important these days. And last but not least, government stimulus packages that counter the negative economic impact from COVID-19 are, to a large extent, going into industries where Elkem is delivering their products. Just to mention China that is now promoting investments into 5G and construction, which both trigger strong demand for specialty silicones but also for silicon. Page 8, please. I have mentioned the Polysil acquisition that we have closed in Q1 already several times during my presentation. Just to remind you, the Polysil acquisition is acquisition of a company in south China with a strong research and development part in the company. We acquired the company at a purchase price of up to NOK 941 million, consisting of a base price and variable elements based on predefined criteria during the time after acquisition. Polysil's main product areas are electrical applications, wire and cable accessories, insulation and connectors, but also importantly, medical applications, catheters, drainage tubes and negative pressure balls. They also deliver to automotive, parts for high temperature and oil resistance and to the consumer industry, baby feeding, kitchenware and other kitchen accessories. The strategic rationale for this acquisition is very strong. It gives Elkem access to advanced technology, especially in liquid silicone rubber, which we will not only use in China but also transfer to other locations of Elkem. It increases our market share in specialties in China. And last but not least, it uses -- it is a downstream captive use of materials from our large silicone's production base in Xinghuo. In 2019, Polysil had an operating revenue of NOK 624 million with an EBITDA of RMB 116 million. Apologies, it was RMB 624 million.Page 9, please. In addition to the Polysil acquisition, the other main event in the first quarter of 2020 was that we launched a productivity improvement program to further streamline Elkem's organization worldwide. We are targeting savings of more than NOK 350 million per year, and these will be permanent savings mainly related to reduction in personnel costs. We have started the implementation in Q1 2020 and we will finalize the program by the end of 2021. This program addresses all divisions as well as corporate functions, and the aim is to improve Elkem's profitability and to fund future growth and specialization, which is in line with our long-term strategy. We have already booked a provision of NOK 200 million in the first quarter of 2020 in other items. This program is not a response to the COVID-19 crisis. It has been decided upon and launched prior to the outbreak of the crisis, but it is progressing despite the COVID-19 challenges that we are facing in our business. By the end of Q1 this year, the annual savings run rate was NOK 39 million, which means that we run the program according to the plan. The main effects are expected in 2021. Page 10, please. If we look beyond the crisis, then there is no change to our strategy, and there is no change in our belief that Elkem develops into an ever-stronger company by long-term specialization. Silicones are a key ingredient to batteries. We have a strong position in cabling and insulation for electric vehicle battery packs. Our market position is expanding from the U.S. and European market to the Asian EV market very successfully, and new contracts are being signed in a fairly quick manner. Silicon is an important material for high-performance solutions in battery applications but also in other products that are important for the development of industries. And last but not least, we are running a very important program that will help us to bring carbon with synthetic graphite into batteries. The pilot plant to develop this high-end synthetic anode graphite for lithium-ion batteries will be ready in the year 2020. Ladies and gentlemen, this was not an easy quarter, and Elkem had to, very flexibly and agile, react to the fast-changing environment and the results that we are seeing are quite satisfactory. Thank you very much for your attention, and I will now hand it over to Morten Viga, our CFO, to present the results in detail. Thank you very much.

[Morten Viga, Chief Financial Officer]

Thank you very much, Michael. So let's start with the main results. As Michael said, we are very satisfied with the results for Q1, although they are at a low level, but we have a revenue of NOK 5.8 billion. There is an EBITDA of NOK 590 million, which represents an EBITDA margin of 10%. Before we go into the financial results, let's have a look at the market picture. And let's start with silicones, which really has had a mixed development during Q1. We have seen clear weaknesses in some industrial markets, particularly automotive and construction. Consumer products, home and personal care have been more stable markets, while in high-end specialty markets like health care and release coatings, we have seen a significant demand increase. The price level for commodity-grade silicones in China and particularly the reference price of DMC has fallen through the quarter from around RMB 19,000 per tonne to RMB 15,500 per tonne. And as Michael rightfully said, the Chinese government has put up a quite significant program to stimulate the economic activity, and this will clearly have a very positive impact on also some of the silicone segments that we are in. If we look at silicon metal, we have seen a good recovery in prices from the end of 2019. This is partly driven by better demand in Q1, but it's particularly driven by a reduced supply, competitors taking out capacity, so we have seen a better supply-demand balance. The chemical and the electronics polysilicon solar sectors have been holding up quite well, while clearly, aluminum, particularly towards the end of the quarter, have -- has suffered very much from the decline, and I should also say, almost full stop in European and North American automotive industry. We now see signs of recovery in that sector. Ferrosilicon, quite similar as the silicon. Prices have recovered based on a more sound supply-demand balance. So we have seen a good recovery of prices up to more than EUR 1,200 per tonne of standard ferrosilicon in Europe. We have clearly now seen a significantly weaker steel industry towards the end of Q1 following the COVID-19 outbreak. The price level for our very specialized foundry alloys have -- has held up quite well, but we have clearly seen volume reductions, particularly towards the automotive industry. For the carbon business, where we have a very strong market position, we have seen a quite stable demand. And we have also been able to hold up prices very nicely in addition to the fact that we have benefited from somewhat lower raw material prices. Let's then look at the main numbers, main financial numbers for the group in Q1. The operating income came in at NOK 5.8 billion. That is very much in line with the previous quarter Q4 '19 and it's also in line with Q1 '19. Compared to Q1 '19, we have had a reduction in silicones revenue of NOK 270 million, while we have had an improvement for silicon materials of NOK 240 million. And for the other reporting segments, there are only marginal changes. The EBITDA came in at NOK 590 million, which represents an EBITDA margin of 10%. That is an improvement versus Q4, which we think is a good improvement, given the corona crisis in Asia in Q1. But of course, compared to Q1 '19, this represents a negative deviation or a negative change from 15% EBITDA margin in Q1 last year to 10% EBITDA margin this year. The big negative swing has come from silicones, NOK 230 million negatively, while for the other reporting segments, the changes are rather marginal. For your benefit, we always include some key numbers from our P&L. Let me make a comment on a couple of the key numbers. Other items, NOK 129 million. That consists of negative fair value changes in power contracts of NOK 85 million and the restructuring accrual of NOK 200 million related to the productivity improvement program that Michael talked about. This is offset -- more than offset by positive value changes in embedded derivatives in power contracts. That's the FX element of the contracts of NOK 214 million, plus also positive FX effects of NOK 204 million, mainly consisting of translation effects on bank deposits and working capital. These are mainly denominated in dollar, euro, et cetera, which has appreciated, of course, versus the NOK. Net financial items, plus NOK 66 million, consist of net interest expenses of NOK 60 million, in line with our guiding. But this is offset by a foreign exchange gain of NOK 129 million, which is a unrealized profit on our intercompany loans towards our subsidiaries in China. The tax cost for the quarter was NOK 102 million, a bit higher than our guiding as this gives an effective tax rate of 28%. This is explained by a different mix of taxable income in countries where we have had a higher portion of profitability, in countries where we have a high and medium corporate income on tax. And we have also not been able to fully utilize the tax losses due to the extraordinary profitability situation. The silicones result was clearly impacted by the COVID-19 situation, which came into full effect in China in Q1 and caused weaker demand and also lower prices. And we were also, of course, suffering from the fact that we had to postpone the startup of our Xinghuo facility after the Chinese New Year. So our results. Net operating income came in at NOK 2.5 billion, which was a reduction from the NOK 2.8 billion that we had last year. Our EBITDA was NOK 200 million, which represented an EBITDA margin of 18 -- or sorry, 8% versus last year of 16%. And the lower EBITDA was explained by delayed startup of our Xinghuo plant and lower prices in China, which was only, to some extent, countered by lower raw material costs. Our sales volume was 70,000 tonnes for the quarter, which also was a reduction versus last year, mainly due to the weak market in China and also due to the fact that we had a delayed startup of Xinghuo after the -- due to the corona situation. Let's move on to silicon materials, which had a very good result, total operating -- given the market circumstances. The total operating income came in at NOK 1.9 billion, which was an improvement of 15% compared to first quarter 2019. This is explained by -- both by higher volumes, but of course, also the translation effect of a stronger U.S. dollar and strong euro versus the NOK. Our EBITDA came in at NOK 211 million, which represented an EBITDA margin of 11%, and that was in line with last year's EBITDA margin despite the fact that this year, market prices were significantly lower than last year. And our sales volume showed a good improvement of up to 66,000 tonnes versus 61,000 tonnes last year. We have seen a -- also a good improvement in the foundry products profitability despite lower sales volume of special foundry alloys, which has clearly been hampered by the significant decline in demand from automotive. Our operating income came in at NOK 1.3 billion, which was a significant improvement versus Q4 last year and it was in line with Q1 last year. EBITDA was NOK 143 million, representing an EBITDA margin of 11%. That's a very good improvement from the weak results in Q3 and Q4 last year, although, of course, it is a negative change versus Q1 last year, mainly due to a totally different market sentiment. Sales volume, 70,000 tonnes, in line with Q1 last year but the mix is not as good as it was last year. This -- we have lower sales of specialty foundry alloys towards automotive and we've had to compensate with higher sales volume of standard ferrosilicon. Carbon, our smallest business, but I'm very happy to say that they've had a very strong performance with an all-time high EBITDA for the quarter. Stable revenue even in this very challenging market sentiment, that is a good demonstration of a very strong market position. Top line was NOK 475 million, in line with Q4 and Q1 last year. The EBITDA was NOK 100 million. That represents an EBITDA margin of 21%. And that is a very good improvement, both versus Q4 last year, where we had 15% and also versus Q1 last year where we had 18%. Our sales volume was 65,000 tonnes, in line with the previous quarters. The earnings per share for the quarter was NOK 0.43 per share. And this was positively impacted by gains in other items and foreign exchange gain, as I showed previously, but partly offset by negative value changes in power contracts, and also, of course, including the NOK 200 million restructuring accrual and also a rather high effective tax rate for the quarter. The equity is still very solid, although we have seen a 4.2% reduction in the equity ratio from Q4 to Q1, so we're now down to 40.5% equity ratio. This is primarily due to technical FX changes in the balance sheet. Our net interest-bearing debt has increased and we now have a net interest-bearing debt of NOK 6.8 billion as per the 31st of March. And with the decrease that we have seen in EBITDA throughout 2019, this gives now a higher leverage, which now is 2.8x as per Q1 '20. The increased -- the increase in the net interest-bearing debt is also very much driven by the FX changes. And this, of course, gives an immediate impact on the net interest-bearing debt while it takes a while to get the corresponding positive impacts into our EBITDA. The proposed dividend and the Polysil acquisition that we have closed now in Q2 will most likely further increase the leverage ratio. We have a very robust financial position, still a high equity ratio, and we also have a very well-distributed debt maturity profile. The maturities that we see in 2020 are predominantly related to short-term loans in China, which we constantly are rolling over, and there is a good environment in China for doing that. We have a bond maturity in 2021 in Norway. And we have an undrawn revolving credit facility of EUR 250 million that is maturing in 2023. But as I said, we are very comfortable with our profile of our debt. The cash flow from operations was very good throughout 2019. We managed to take down working capital significantly and hence, achieve a very good cash conversion. We have now got a setback on that in Q1. This is particularly due to the COVID-19 situation, where we had a somewhat increase in inventories due to, of course, slow sales. And we also had an increase in receivables in China. But I'm not too concerned about the receivables situation, and we will also keep a very tight control of inventories going forward. But due to this buildup of working capital, our cash flow from operations was negative, minus NOK 88 million, for the first quarter. The investments amounted to NOK 453 million in the first quarter. Reinvestments were NOK 250 million (sic) [ NOK 253 million ], amounting to 64% of depreciation. That's a bit lower than our guiding. We're now applying a very strict control, of course, both on working capital but also on investments to optimize cash. Our strategic investments were NOK 200 million, primarily related to silicones growth projects. In China, we're also doing the new R&D center for silicones in R&D in addition to strategic projects in the other division, where I should particularly mention the pilot line for the carbon battery project that will be completed later this year. Then Michael, please take us through the outlook for the second quarter.

[Michael Koenig, Chief Executive Officer]

Yes, Morten. Thank you very much for presenting the results, and let me now go to the outlook on Page 24. Well, it will not surprise anybody that the outlook and the current market environment is having a very high level of uncertainty. We are very, very happy to see that the health crisis seems to be past its peak, at least in Europe. But clearly, the economic crisis is still unfolding, and that is creating uncertainties for the second quarter but also beyond. However, Elkem has a very strong position, as we have presented during the last 30 minutes already, that help us facing the challenges ahead. In a crisis like this, competitive, low-cost positions in operations are very important. The diversified product portfolio, the broad geographical footprint and our robust financial position is going to help us to weather through the crisis and come out stronger than before. But we currently see very low DMC prices in China, stable prices for specialty products and an overall demand that is uncertain. It will depend a lot on the magnitude and impact of global economic slowdown in areas like automotive and construction how the results of Elkem in the second quarter are going to be. The silicon and ferrosilicon markets in the U.S. and in Europe are affected by production stops in the automotive industry, and also there, the extent and the duration is uncertain. And the same is true for the market in carbon materials that may slow down due to lower industrial activity. So in a nutshell, we are navigating through this crisis based on our strong position. But the outlook for the second quarter, as is the outlook for the general economies around the world, is characterized by very high levels of uncertainty. With that, I would like to thank you very much for your attention and I give it back to Odd-Geir.

[Odd-Geir Lyngstad]

Thank you, Michael. We will then open for questions from -- on the webcast.

[Odd-Geir Lyngstad]

So for those of you have not raised your question yet, it's still possible to do that. But we have some questions. The first is coming from Charlie Webb. And the first question is, can you please provide any sense of how volumes developed across divisions in April?

[Morten Viga, Chief Financial Officer]

I can say a few words about that. I don't think it's appropriate to give any detailed information about Q2 numbers. But what I can say is that we will closely monitor our capacity utilization versus the demand that we see, and we currently run at almost 100% capacity utilization.

[Odd-Geir Lyngstad]

And second question also from Charlie Webb. Why was there such a step-up in inventories in the quarter? Do you expect to unwind this in second quarter or will you need to lower production?

[Morten Viga, Chief Financial Officer]

Well, as I said, we had a challenging situation already in Q1 in Asia regarding the COVID crisis -- COVID-19 crisis. And clearly, that caused a significant decline in sales volumes in -- already in Q1, which also led to a higher inventory volume. We do closely monitor the situation, and we will adjust production if and when needed due to weaker demand. But as for now, we run at almost 100% capacity utilization. But if needed, we will take down production in order to avoid inventory buildup.

[Odd-Geir Lyngstad]

And the third question from Charlie Webb is, given the weak market demand, do you expect silicon metal, ferrosilicon and DMC prices to weaken through the coming quarters?

[Morten Viga, Chief Financial Officer]

We should be careful about giving firm forward-looking expectations in today's market. I think the picture is a bit mixed in silicones. We have clearly already seen a sharp decline in prices for commodity-grade products, particularly in China. And we are now approaching the level of marginal cost, of marginal producers, which normally gives support for the price level. For silicon and ferrosilicon, we clearly saw a strong increase in prices towards the end of '19, and prices have held up quite nicely also in 2020. We've also seen competitors taking out capacity and capacity utilization in the western markets are around 60%, and that has also clearly supported prices. So I would not speculate in price development going forward.

[Odd-Geir Lyngstad]

Then we have a question from Morten Normann in Carnegie. His question is, going from the fourth quarter to the first quarter, how much did the weaker NOK has -- how much has that contributed to the EBITDA change?

[Morten Viga, Chief Financial Officer]

I will ask on a general basis, we have disclosed sensitivities on our long positions in U.S. dollar and euro versus the NOK. And then, of course, we also have translational effects of the other main currencies where we are more balanced, particularly Chinese RMB. So you can easily count that a 10% reduction in NOK will, on average, give NOK 500 million to NOK 600 million improvement on EBITDA. But as previously stated, there is a time lag because we have a hedging program in place with a gradual or a hedging for 12 months going forward. So the immediate impact of a sudden change in FX is rather limited, and the impact in Q1 as such was rather limited. But if this continues, we will see an increasing positive impact from the weak NOK going forward, and we will have a full impact from 12 months.

[Odd-Geir Lyngstad]

Then a question from Andreas Bertheussen in Kepler. Can you please add color to the year-on-year or quarter-by-quarter change in silicones mix, I mean, the sales mix between specialties and commodities?

[Morten Viga, Chief Financial Officer]

Yes. As we said, we have clearly seen a massive decline in demand from automotive, and that is clearly a specialty product for us, both in textile coating towards airbags, also insulation products towards EVs and other specialty products towards automotive has been quite hard hit in Q1. We have also seen clearly a weakness towards construction, while other segments like health and personal care and particularly -- well, health care has been holding up or improved significantly. So it is a mixed picture. We have seen a decline in construction, as I said, which is a -- more of a core product, while we have also seen a decline in automotive, which are more specialized products.

[Odd-Geir Lyngstad]

And then the second question from Andreas is the price development within the specialties, the silicone specialties, how has that been so far?

[Morten Viga, Chief Financial Officer]

We have very strong market positions in the specialty niches. Generally, contracts are 1 year and generally, we have very stable prices. That's why these products are specialties. But of course, we have had to take hits on volumes in some of the segments.

[Odd-Geir Lyngstad]

And then another question from Morten Normann is -- and I guess it's more an accounting-related question because we have positive effects in other items and financial items. And the question is -- I guess, is why we -- the net interest-bearing debt is increasing? Why don't we see that -- why is the effect on FX positive and we see increased net interest-bearing debt?

[Morten Viga, Chief Financial Officer]

Can you repeat that, Odd-Geir, please?

[Odd-Geir Lyngstad]

Yes. We have positive effects in our accounts but the net interest-bearing debt is higher. So why is that?

[Morten Viga, Chief Financial Officer]

Clearly, the net interest-bearing debt has been increased because a major part of our debt is denominated both in, well, RMB, in euro and in dollar. The first part of the question, I'm not sure I follow completely. Maybe we can get back to Morten on that directly.

[Odd-Geir Lyngstad]

We can do that, but we have hedge accounting for the debt items. So that is why it's not going through the profit and loss. So I guess that is basically the short -- very short question. That actually concludes the number of questions that we have received. For those who have still questions that we -- that you would like to ask, we are available, obviously, on e-mail and on phone later today and next week. So with that, I would like to thank Michael Koenig and Morten Viga for the presentation, and this then concludes our first quarter presentation. Thank you very much for following us.