Elkem ASA

OSE:ELK

Earnings Call Transcript 2020-Q2

[Odd-Geir Lyngstad]

A warm welcome to Elkem's Second Quarter Results Presentation. My name is Odd-Geir Lyngstad, I'm responsible for Investor Relations. With me today, I have Michael Koenig, CEO; and Morten Viga, CFO. We will take questions on webcast after the presentations. And with that, I leave the word to you, Michael.

[Michael Koenig, Chief Executive Officer]

Odd-Geir, thanks a lot, and welcome, good morning to the presentation of our second quarter results. And let me start with an overview by basically saying we have seen very weak markets impacted by the COVID-19 crisis, but we have also demonstrated that we have, as Elkem, very strong competitive positions that have helped us going through this crisis in a relatively positive way. We had high capacity utilization throughout the quarter, good sales volumes despite the challenging market conditions that I've mentioned earlier. We finished the quarter with an EBITDA of NOK 644 million. That includes a one-off gain of NOK 61 million from an arbitration case in Silicon Materials. The Silicon Materials division and Foundry Products division have been merged as of July 1 into one division that we now call Silicon Products. We have a productivity improvement program that has been launched early 2020 with the target of annual savings of more than NOK 350 million, and that program is progressing as planned. We have signed a new loan agreement of NOK 2 billion on July 16 to secure refinancing of loan maturities that will occur in 2021. And the market outlook going into the third quarter continues to be characterized by a very high degree of uncertainty and very low visibility, all of that due to the economic impact of the COVID-19 crisis. Now let me start the detailed presentation with a view on our ESG performance and our ESG activities. Environment, social governance is playing a very high role in our management system. We have, due to mainly hydropower in Norway, 80% share of renewables in our total electricity consumption in 2019. And since a few weeks, we are certified as a NASDAQ ESG transparency partner, and we are very proud of that. On environment, we are, of course, focusing on fossil carbon dioxide emissions. Our main target is to reduce CO2 emissions by use of biocarbon, where we have an ambition to use 40% of biocarbon by 2030, and I will come back to that in the next chart, where I will introduce a project which will help us delivering on that ambition. We have a good safety record so far in the first and second quarter on the level of 2019. Now let me spend 2 minutes on our biocarbon strategy and what we are doing. As I alluded already, the use of biocarbon to replace fossil carbon in our production process is very important. Production of silicon and ferrosilicon require the use of carbon as a reduction material in order to extract the oxygen from the quartz, and that results into CO2 emissions. Our strategy is to reduce the use of fossil coal in order to reach our ambition and our sustainability goals. And what we have done is we have developed a technology which is unique for the production of sustainable biocarbon mainly using waste from sawmills. That combines then low-cost materials, which makes it very competitive and with -- and has a fairly high yield in the conversion process. This technology development has been very successful so far, and we have now decided to invest into this technology and build a pilot plant, which will cost around NOK 180 million in order to be able to industrially verify the process and ensure that the products work in our production processes at Elkem. This NOK 180 million that we are investing into that are supported by a government grant of NOK 120 million. So Elkem's net investment into this technology at this stage is NOK 60 million. We will -- because this technology has potential also beyond the scope of Elkem, we will want successful search for business partners to realize this technology and to really bring it to its full potential. COVID-19 has, of course, impacted markets in the second quarter very significantly. Despite that, we had generally strong sales volumes throughout the quarter. Going forward in the third quarter, our capacity will be, on average, reduced to around 90% across all divisions. That's partly due to maintenance, but it is also partly due to weak demand. However, we will be also in the third quarter, in terms of capacity utilization, above industry average. Sales prices are also significantly impacted by the COVID-19 crisis. Elkem, clearly, versus competition, is benefiting from its strong cost positions. Construction is weak in Europe, shows continued growth in China, but at significantly lower rates than what we have seen prior to the COVID-19 crisis. The automotive market, and you see that on the right-hand side of this chart, automotive market is very weak in Europe and in the U.S. However, automotive sales in China have recently picked up significantly, and that impacts global sales of automotive in a positive way. I have mentioned our productivity improvement program already. This program was launched prior to the COVID-19 crisis as a means to identify potential to make Elkem more competitive. We have identified NOK 350 million as targeted annual savings, mainly related to reduction in personnel cost. And we are foreseeing that this program will be finalized by the end of 2021. It addresses the whole company across divisions, including corporate functions, and we really want to increase, improve Elkem's profitability to fund future growth and the specialization in line with our strategy. We have accordingly booked a provision of NOK 200 million in the first quarter 2020. So by the end of the second quarter, the annual run rate is NOK 88 million. That is ahead of our original plan. And then the main effects we will see in 2021. We have merged 2 divisions as of July 1, Silicon Materials and Foundry Products, and we are expecting some additional synergies and savings out of this merger. On this merger and the resulting new corporate structure, we have gone from 4 to now 3 divisions. We have merged Silicon Materials and Foundry Products. The new division we call Silicon Products. This merger will improve our commercial focus and also improve operational excellence. We will have our marketing and sales resources focused on commodities and specialties in a very dedicated way, and we will streamline the organization and use and create operational efficiencies across all our plants worldwide. The new division will have 23 plants. The changes will be reflected in Elkem's financial reporting from the third quarter 2020 onwards. In addition to this change, we have created 3 focus areas that since July 1, report directly to the CEO. It's a digital office. It's a Battery Materials project and the biocarbon project that I have just mentioned. A couple of sentences on our position in the Chinese silicones market. That is very important for us because the Chinese silicones market is the fastest-growing market and we have a leading position in the Chinese market. It also has more than 50% of the world's production capacity. So it is also very competitive. Our strategy is to develop the Silicones business along 2 axes: specialization on the one hand and low-cost on the other hand. And we are quite uniquely positioned in order to develop these specialized product positions because we are a market leader already. We have access to global R&D resources and we have, with the acquisitions of Basel and Polysil, access to new technologies that are very well-established in the Chinese market already. However, and I mentioned that, the Chinese market is very competitive. We have seen more upstream capacity added in China. And we and Elkem benefit from our strong cost position, which is very important for the overall value creation. Let me spend a minute on 2 interesting new product launches that demonstrate where we are going. One is Polysil. Polysil comes from our new acquisition, Basel Chemie, in Korea. It's a raw material for designers of hair and skin care products, and it is helping them to use their creativity to create better products. And it's a product that is appreciated by a lot of global hair and skin care companies. And then the second one, which comes from our European resources. AMSil is a raw material for 3D printing, both for medical applications, but also for industrial applications. I have mentioned in my overview our new loan facility. Our financing position is generally very robust. And we have a strong liquidity position and a good solid maturity profile. However, financial markets in the wake of the COVID-19 crisis are volatile. And Elkem has therefore decided to address that with signing a new loan agreement over NOK 2 billion, which can be used to refinance bonds and the Schuldschein maturity that will occur in 2021. This new loan facility has a tenor of 3 years, and the financial covenants and other conditions are in line with Elkem's existing loan agreements. Our results. As an overview, we had good operational performance and sales, and that has secured stable results in a very challenging market. We had a one-off of NOK 61 million from an arbitration settlement, which is included in the Q2 results. Our financial items and other items were negatively impacted by the significant currency changes that we've seen. And our equity and leverage ratios are negatively impacted by the dividend payment that we had and by the closing of the Polysil acquisition. Our total operating income was NOK 5.879 billion. We had an EBITDA of NOK 644 million, and that results in an EBITDA margin of 11%. Some details into our individual businesses. In silicones, we have exceptionally low visibility. But silicones is the product division where we are having the strongest exposure to China, and we clearly see China is picking up. Automotive and construction were generally very weak in the second quarter. Consumer products are generally holding up better and securing our results. DMC prices have been at very low levels throughout the quarter, but have picked up slightly towards the end of the second quarter. The somewhat increased silicones prices in China were primarily due to increased demand, and that was mainly driven by the huge incentive and stimulus program that the Chinese government has issued. Again, our customers in silicones have very low visibility going forward because timing and pacing of the recovery is very uncertain. In silicone, we have seen a very weak market development. The CRU EU reference prices were holding up for most of the month, but that was more because they were lagging the underlying market development than that it reflected reality, and then we have seen this very clear downturn that you see on the right-hand side of this chart towards the end of the quarter, which really was a correction of the impact that didn't occur before. Very mixed demand from end user segments. Aluminum is down due to the weakness in automotive. Chemicals have been negatively impacted. But electronics/solar-grade polysilicon has been holding up very well. Ferrosilicon, low demand, and that is driving prices down. It has -- ferrosilicon markets have dropped significantly in the second quarter, and it's clearly impacted by low steel consumption. And again, that relates back to automotive and construction. However, the very low price level for silicon in -- for ferrosilicon in Europe also limits the incentive for importers from Asia, and that lowers the risk for further price decline. In carbon, we see lower demand but stable prices. The lower demand for electrodes and carbon material also is due to the weakness in automotive and construction markets. And here, as in all the other divisions, there is a very uncertain outlook into the third quarter because of the exceptionally low visibility. And with that, Morten, I hand it over to you for the financials.

[Morten Viga, Chief Financial Officer]

Thank you very much, Michael, and good morning, everybody. So let's start with the main numbers for the Elkem Group for quarter. We reported total operating income of almost NOK 5.9 billion. That was 2% up compared to the same quarter in 2019 and also up versus Q1 this year. Basically, a increase in silicones and in silicon materials, while there was a negative development in Foundry. Our EBITDA was NOK 644 million, which represented an EBITDA margin of 11%. That's in line with the same quarter last year, but an improvement versus Q1 this year. So silicones. There, we saw a negative development versus last year of NOK 116 million. Silicon Materials delivered a very good quarter with an improvement of NOK 141 million, Foundry on par, while we also had an improvement in carbon. For your benefit, we have included main numbers from our P&L, which is impacted by currency losses in financial items and in other items. The other items represented a minus of NOK 107 million. There was a positive fair value change in commodity contracts. That's related to power contracts. But this was more than offset by negative value changes in embedded derivatives in power contracts and also negative currency effects of NOK 120 million, mainly consisting of translation effects on bank deposits and working capital. Our net financial items amounted to minus NOK 93 million. The net interest expenses were minus NOK 53 million, in line with our guidance. But on top of that, we had foreign exchange losses of minus NOK 34 million due to translational effects on intercompany loans towards China. The tax cost for the quarter was minus NOK 16 million. A low tax cost, but also based on a very low profit. Let's look at the divisional results, start with silicones. High sales volumes, that's good, but clearly very low prices. So the total operating income amounted to NOK 3.1 billion. That's up 11% compared to the same quarter last year, and it's also significantly up versus Q1 this year. The increase in top line is basically explained by very high sales volumes and also the consolidation of Polysil, which started in April. But this is then partly offset by lower prices. Our EBITDA was NOK 217 million. That's down 35% from last year, but it's a small increase versus Q1 this year. The lower EBITDA versus last year is mainly explained by lower sales prices in China. In addition, we have clearly seen that the EBITDA profitability has been negatively impacted by low sales to other specialties, particularly to automotives. Prices are holding up, but we have seen significant volume cutbacks due to the crisis in automotive, in particular. Polysil delivers, and it was consolidated from April, and it has certainly made a positive contribution to the EBITDA. Silicon Materials delivered a very strong result in a challenging market environment. Total operating income amounted to NOK 1.84 billion. That was up 15% versus Q2 last year, and it was very much in line with Q1 this year. The higher operating income versus last year is basically explained by higher prices, but also, of course, a positive currency impact with a weaker NOK and stronger euro and U.S. dollar. We reported an EBITDA of NOK 303 million. That represents an EBITDA margin of 16%, and that's a significant 87% improvement versus Q2 last year, and it's also a significant improvement versus Q1 this year. Mainly also this, explained by higher sales prices and also a positive currency impact. As we mentioned, we had a one-off gain from an arbitration case with a customer, which gave a positive impact of NOK 61 million. Foundry Products result is clearly hampered by weak market conditions, both in the ferrosilicon to steel market, but also in the foundry alloys market, particularly towards the automotive sector. The operating income of the quarter was NOK 944 million. That was down 21% versus the same quarter last year and was also significantly down versus Q1 this year. We reported an EBITDA of NOK 80 million. That represents an EBITDA margin of 8%. It was in line with the corresponding quarter last year, but it was a deterioration versus Q1 this year. We have had clearly significantly lower sales volume from -- or caused by weak demand, but this has been partly offset by cost improvements, particularly within lower operating fixed costs. Carbon, the smallest division. But once again, the Carbon division delivered a very strong result in terms of profitability. The operating income amounted to NOK 480 million. That was spot on the same level as the same quarter in last year and also in line with Q1 this year. Better pricing and also here, favorable currency development, compensates for weaker sales volume due to challenging market conditions. We reported an EBITDA of NOK 119 million, representing an EBITDA margin of 25%. That's 38% up from the second quarter last year, and it's also significantly up versus Q1 this year. And once again, we have had good prices, good margin management and also an improved product mix. And we also here see the benefit from our cost improvement programs. If we look at the group numbers, our earnings per share was very low, close to NOK 0 for the quarter. This was clearly impacted by losses in other items and foreign exchange losses that I mentioned previously. Our balance sheet is very solid, and our equity amounts to NOK 12.8 billion as per 30th of June. That's slightly down from year-end '19, and it represents an equity ratio of 39%. The negative development, it is basically caused by the dividend payment that we made in Q2 and also the increased value of total assets due to translation effects. We have seen an increase in net debt due to -- mainly due to the Polysil acquisition, where we paid the first installment in Q2. The leverage ratio is now 3.4x EBITDA based on the last 12 months EBITDA of NOK 2.4 billion. And the increase is basically explained by the dividend payment and the payment of the Polysil acquisition. As Michael mentioned, we have a very well distributed debt maturity profile. The 2020 debt mainly consists of local working capital financing in China, which is constantly rolled over. We have a significant debt maturity in 2021 in the Norwegian bond market and also in the German short share market, and we have now signed a new loan facility, which will give us an excellent flexibility in timing the refinancing of these maturities. Our cash flow from operations for the quarter was positive, very good, NOK 363 million for the quarter, although it was somewhat lower compared to last year, but it's a good improvement versus the Q1 '20 cash flow. This is due to a significant reduction of working capital during the quarter. We focus a lot on optimizing inventories, although that is challenging in today's market. And we're also taking the benefits of extended factoring schemes, which gives a reduction in accounts receivables. The investments, excluding M&A, amounted to NOK 499 million in the second quarter. The reinvestments were NOK 307 million for the quarter. That corresponds to 72% of our depreciation and amortization, somewhat lower than our average guiding. And our strategic investments amounted to NOK 192 million. That's primarily related to various silicones growth and development projects. In addition, we had investments into Polysil. The first installment of that acquisition amounted to NOK 792 million. Then I hand it over to you, Michael, to elaborate on the outlook for the third quarter, please.

[Michael Koenig, Chief Executive Officer]

Yes, Morten, thanks a lot. With that, I come to the outlook for the third quarter. As we have mentioned during the presentation, the third quarter will continue to be characterized by exceptionally low visibility in the wake of the COVID-19 effects, which are very, very hard to predict. And we will need to continue to work through the situation in a very pragmatic and agile way. Elkem has very good cost positions. We have a very diversified product range, and we have a diversified geographical range together with a robust financial structure. That is making us very competitive in the market, and we believe we can perform better than others in the market who don't have our strengths. Silicones demand in China is good, mainly driven by government incentives, but sales prices are uncertain and may be quite volatile in the third quarter. Silicones demand outside of China is weak, and that's negatively impacting the sales of our specialty products. Silicon and ferrosilicon prices are substantially down based on weak demand, in particular, from automotive and from construction. And the generally lower industrial activity is also expected to reduce the demand for our carbon materials. Thank you very much for your attention, and we are now open for questions.

[Odd-Geir Lyngstad]

Okay. We are now open for questions from those participating on the webcast, and there are 2 questions going on stock effects. They are from Charlie Webb in Morgan Stanley and Thomas Wrigglesworth from Citibank. And the questions are very similar, so I take them. One, do you believe that stocking effects in China supported Q2 silicone volumes? Or they -- your volumes reflected on the underlying demand? And Thomas has a similar question. With your comments around China -- no. Yes, with your comments on -- around China stimulus, do you think it benefited from stock effect?

[Michael Koenig, Chief Executive Officer]

In the current market situation, it is very hard to give an estimate on how much is a stocking effect and how much is true consumption. And for sure, Chinese producers had destocked through the crisis. However, I would think that most of the sales that we did are not going into additional stocks, but are real consumption. Anything?

[Morten Viga, Chief Financial Officer]

No. I think we see clear signs of recovery in the Chinese economy. They posted positive GDP growth numbers the other day. And we see a strong demand, particularly, let's say, strong domestic demand, very much fueled by incentive schemes. Clearly, the export industry of China is still struggling. But we believe that the good sales volumes are primarily driven by good macroeconomic development.

[Odd-Geir Lyngstad]

There is also another question from Charlie Webb in Morgan Stanley. Can you provide us with a sense of the scale of temporary savings that you realized in the second quarter, such as lower business travel, employee savings and so on?

[Morten Viga, Chief Financial Officer]

I cannot give specific numbers on this. But clearly, we have had a significant reduction in travel cost; that goes without saying. What is important is that we have a good pace on the structural cost improvement programs that we have launched. We're ahead of plan on our productivity improvement program. We're looking for more potentials in that program, and that is also highly needed going forward.

[Odd-Geir Lyngstad]

Third question from Charlie Webb. Can you provide some quantification on your outlook statements? It appears that you are guiding on -- to a sequentially softer quarter in Q3 versus previous quarters.

[Michael Koenig, Chief Executive Officer]

Well, I don't think there is much to add to what we said. Fundamentally, we have very low visibility, and that will characterize the third quarter. And we are looking into a situation where prices have dropped towards the end of the second quarter. And that gives us a -- yes, uncertain outlook. But I don't think we can quantify that any further.

[Odd-Geir Lyngstad]

And it's more or less the same question on -- from Thomas in Citibank which is also going on utilization rates for third quarter and implies lower quarter-on-quarter for silicones. So it's more specific on the division. Any comments to that?

[Michael Koenig, Chief Executive Officer]

Well, we did say in the presentation that we are expecting somewhat lower utilization rates, which is driven by maintenance, but it also has an aspect of lower demand.

[Odd-Geir Lyngstad]

So far, it doesn't seem to be any further questions here. So with that, I think it concludes the presentation, and I would like to thank all of you for participating. Thank you.

[Michael Koenig, Chief Executive Officer]

Thank you very much.