ENGIE Energia Chile SA

SGO:ECL

Earnings Call Transcript 2018-Q2

[Operator]

Good afternoon, everyone, and welcome to Engie Energia Chile's Second Quarter 2018 Results Conference Call. If you need a copy of the press release issued yesterday, it is available on the company's website at www.engie.cl.

Before we begin, I would like to remind you that this call is being recorded and that information discussed today may include forward-looking statements regarding the company's financial and operating performance. All projections are subject to risks and uncertainties, and actual results may differ materially. Please refer to the detailed note in the company's press release regarding forward-looking statements.

We would like to advise participants that this call is dedicated to investors and market analysts, not for the press. We ask all journalists to contact Engie Energia Chile's PR Department for details.

I will now turn call over to Mr. Eduardo Milligan. Please go ahead, sir.

[Eduardo Milligan Wenzel, executive]

Thank you very much.

Good afternoon, and thank you for attending this call. Today, Marcela Munoz, Head of Investor Relations, and I are very pleased to be here with you and present ECL results for the first half of this year.

I will start with the [ page ] with the key messages, the status of our main projects under construction. And of course, we'll discuss some of the main events in our industry and for the company during the semester. Then Marcela will present our details for the financial results and the financial plan.

So to be complete, let us see the -- let's move directly to the main key messages and turn to Page #9 of our presentation.

First, we are glad to mention ECL has seen another strong quarter and continues to deliver solid progress towards our objectives for this year. So we confirm that we are in line with the guidance we provided early this year. The new PPA, which started last January, will become the main source of growth during the next 2 years.

Second, during the first quarter, we announced an important event for ECL, which will drive our strategy and main development efforts in the future. As you know, we finalized our negotiation of some PPAs, which will also trigger the possibility to start a gradual transformation of our thermal portfolio from basically coal to renewables.

Third, during this year, we continued with the development of our renewables portfolio, and our next goal, as we mentioned in our previous call, is to put these projects into our ready-to-build stage very soon. Then the construction phase will be launched at the best time-to-market conditions. Another important point for us this year was 3 options to build the new transmission line as part of the process launched by the CNE in relation to the national transmission expansion plan. We will present these 3 projects in a few minutes.

And fourth, in relation to our capital structure, we're in the final phase of our CapEx plan, and this is strong cash generation and delivery of projects under construction and budget, in fact below budget. We do not expect any additional debt in the upcoming months to finalize, for example, IEM project. In fact, we [ paid off ] a portion of the outstanding short-term debt during last month.

So now let's move to Page #10 and let's take a look into the main industry and company events during this first half. Let's start with the industry.

First, as you know, the interconnection began operations last November. So we've seen the interconnection as proven to be important for our system, allowing to use between 75% and 80% of the trapped solar heating capacity in the central system. But now, as you know, currently, the interconnection is not working at its full capacity and is limited to around half of it or the equivalent of about 700 megawatts. We expect the line will run and will be operated at its full capacity once the final section of interconnection in Southern [ Chile ] is finished. Now the official date provided by the developer of the line has moved to the end of 2018. So this is something that we are closely monitoring to see when this line is going to be finalized because it will also impact the conditions that we have to the commission, the 2 units we already also announced some months ago that will closed in April '19.

Well, second, last January, the main generation company jointly announced not to develop new coal units, and our own table was implemented during the second quarter to discuss with the -- all the main shareholders some key [indiscernible] to start [indiscernible] decarbonization of the Chilean system. This is -- your group will analyze the vision, taking into consideration all impacts from different perspectives, [indiscernible], regulatory, economic, the system's reliability, et cetera.

Finally, as recently mentioned, the CNE conducted these public auctions to award new transmission projects under the Annual National Transmission Expansion Plan. The aggregate referential investment value was $300 million. And as I mentioned, we are glad to announce that 13% of this were awarded to ECL through 3 projects we will discuss in a few minutes also.

Now from a company perspective, the main events during the first 6 months were, first, in April, we signed amendments with Codelco and Glencore to start the gradual representation of the PPAs together with an important extension of these contracts. These were already announced at the end of the first quarter. Following this announcement, ECL requested authorization to disconnect units 12 and 13 in Tocopilla with date April '19. Now the authorization was granted during the second quarter by the CNE, and those units could be disconnected subject to one condition, which is that the 2 deconnection of the -- of both systems should be ready.

Then as you know, the most important event for ECL as well is the start of the new regulated PPA. Besides, there were and there are still some concerns about the total demand. We can mentioned that the demand of PPA regulated clients is moving in line with our estimates and the guidance that we provided to you early this year. In this same context, we find what we call the bridge PPAs to hedge our exposure in the central system until the full deconnection is ready. The bridge PPAs are already in force and will be in force until the end of 2018 for around 60% of the expected demand.

Now for 2019, we are analyzing that we will need or not to extend a portion of these PPAs until the full interconnection is ready. In any case, [indiscernible] we will share with you as soon as we have a better view of -- to optimize this [ stretch ].

In relation to the 2 projects under construction, also we have to mention our port reached commercial operation on June 30, while IEM is the final -- is in the final commissioning phase. We experienced some delays in this final phase. It's a general delay. It's not related to any specific event. But this delay, in fact, is not material, and our best estimate is that we should be ready in the fourth quarter of this year.

Now let's go to Page 11.

In this snapshot, we're summarizing our first half results compared to previous year. As I said 2 weeks ago, ECL's [ financial ] results were pretty in line with our expected solid growth for 2018. Total revenues increased by 13% and EBITDA by 33% and the recurring net result by 91% compared to the same half of the previous year. And as you know, these results were mainly driven by the new and legacy PPAs and other smaller PPAs we've signed between 2017 and this year, together with the additional important savings in OpEx.

The physical energy sales increased 11%, keeping the same trend of the first quarter, while, at the same time, our spot energy purchases increased 13% compared to the same half of 2017. This means during the first half, we supplied our clients with almost 40% of spot purchases, keeping a very similar ratio as in 2017 and considering a larger base of energy. Now if we had the bridge PPA, this [indiscernible] increases to almost 45% to 50%. So in this slide, our first half PPA EBITDA reached a new record figure of $187 million.

Let's turn to Page 12.

The graph better explains how we are supplying our plants between our own generations, spot purchases and the bridge PPA. First, well, purchases continue to become an important source of supply for our contracts. Second, bridge contracts represent slightly above 50% of the regulated demand in the center. And third, units 12 and 13 have been completely displaced to the last position in the dispatch ranking, so we've seen less than 5% during this year. As we explained before, the situation will continue once IEM commercial operations in the fourth quarter [indiscernible]. And then both units will by the supplied system, and this is why we request to close this plant in -- next year.

The average monomic price of our contracted portfolio in the first half was $116 per megawatt-hour, while the average supply cost, including all charges, was close to $65 per megawatt-hour. So we are pretty in line with the previous quarter.

Well on Pages 13, 14 and 15, we do not have additional news compared to what we already announced during our previous conference call, but considering the main strength of ECL and the excellent portfolio of clients and the duration of the portfolio, it is worth to mention that we keep an average life of more than 13 years and that we signed during the first half of 2018 new PPAs for more than 500 kilowatt-hours. I believe that during the next quarter, we'll probably open a bit the new PPAs that we have been signing to show these additional efforts from a commercial point of view.

On Page 14, we present the main changes in the PPAs, which we were announced in early April. In summary, these are -- there are 3 different phases: first phase, in which we are doing the short-term discount in the PPAs; the second phase, in which we are given additional discounts together with what we call the decarbonization of these contracts, which means there are changes in the indexation from the current formula that includes coal to only CPI; and third, a new contract based on current market conditions applicable for clients like Codelco and Glencore. So with these changes, we have increased the average life of our portfolio of PPAs, leaving behind the indexation to coal. And therefore, [indiscernible] investments in renewables, and the idea is, we already mentioned, it's a gradual replacement of our thermal external capacity with these cleaner technologies.

So on Page 15, we present our total portfolio by site. I want to highlight that from [indiscernible] portfolio, which may reach around 12 terawatt-hours in '19, half of the energy supplied to regulated clients, the blue and light blue areas, and the other half to our grid lines, both green and brown areas. Other important consequence of what we just explained is that since 2021, the green area in this graph will be, as we say, the decarbonized and indexed to CPI. Therefore, as part of our transformation and as we explained in 2017, we are promising on renewables and mainly on wind and solar technologies. In the second quarter, our development team continued working to put at least 2 projects in a ready-to-do states by the end of this year. So we expect to share more details in the upcoming months on those projects, and the idea is to have them ready in case time-to-market is good to beat, let's say, notice to proceed next year.

On Page 16, we show the regions in which we are developing those renewable projects. Our Calama wind farm got the environmental approval, and we are negotiating the turbine engineering agreement, let's say, at this stage. This project may become one of the first or will become one of the first to move into a construction phase. But, as I've said before, the decision will be depend on market conditions and also considering the investment costs could change over time based on market conditions, change in interest rates, demand for those turbines but also impacted by new improvements in the technologies behind this type of turbines.

Now to continue, please let's move to Page 17.

In this page, we are summarizing the results of PPA participation in the recent transmission auctions. We participated in these projects, and we know that the total investment between the 3 of them will be close to $40 million will require around 2 years construction. And we -- AVI will be close to $1.5 million per year. Now these projects are interesting for ECL, first because the return is good. It's a regulated return, so -- for this type of business. Second, because these projects are, let's say, strategic for us. These projects are located in areas in which we have presence, and, therefore, we'll be able to create some synergies. And this aligns -- these projects are linked to our renewable portfolio and their development.

So it was important for ECL to secure these projects. And these projects, let's say, since they are linked to our existing projects under development, could have an impact in the total return of the renewables in case we can find a better match than, let's say, waiting for others to do these projects in a different way. This means that we were able to consume around 13% of the total investment value which was auctioned so far in 2018. And besides what we expect in the future, well, we will continue participating in these auctions if they [ meet ] the conditions that I already mentioned.

So further, we also want to highlight the commercial operation of our new port, Puerto Andino. This project required a total investment of approximately $120 million. It is a mechanized port with the ability to receive Cape-size carriers or, in practical terms, ships that can transport more than 180,000 deadweight tons. The picture on the right shows the first Cape-size carrier that arrived at Puerto Andino some weeks ago. The benefit, of course, is related to economies of scale, higher unloading speeds, lower demurrage costs and, therefore, lower cost for ECL. But as you can imagine, the full capacity of this port will not be used for coal unloading considering the port was also designed for the potential mix of a second coal project similar to IEM. Well, in fact, the name of this project was IEM2. Therefore, we are currently negotiating and looking for different [indiscernible] to follow to optimize this asset. We believe the overall additional income we can create with this type of new port like Puerto Andino could be close to around $5 million. So as you can imagine, we have appointed a development team to chase all these alternatives during the next years. Also, considering that there are several mining projects around this facility. So we can provide not only energy but integrated solutions to the whole, let's say, infrastructure and energy chain to this project.

As I mentioned, at the end of this goal, with the port fully commissioned and entering into the final phase of IEM, [indiscernible] will be declining in the short term, and that's on Page 19. We can see what -- how, since this is second semester, so we'll release an important capacity to fund new investment. We may be able to finance at least additional $700 million to $800 million of new investments through additional debt and keeping our leverage ratios under control. This means starting 2019, financing capacity for our transformation plan will be released. The company will be in excellent condition to finance on balance sheet these new investments.

Finally, to conclude with this initiative, we'll move to Pages 18 and 19. Here, we are free to confirm that ECL delivered strong results, as expected, and, therefore, the guidance we provided early this year for -- it's only driven in '19. We confirm -- on Page 18, we highlighted the main KPIs to be followed to monitor this guidance for '18 and '19.

We mentioned our PPA portfolio went into effect, the positive impact of the new related PPAs and the temporary negative impacts related to the short-term discounts. In terms of demand, the client migration from regulated to free clients continues to impact the overall demand of regulated PPAs. Recently, we saw hundreds of new projections from the CNE in which we could expect an additional negative impact from the client migration. However, in the specific case of ECL, we already considered most of these downside case assumptions as part of our guidance. So we do not expect an important adjustment from our side in relation to this specific event or new projections.

Fuel prices are negatively affecting our results in '18. Coal prices have increased. And also, the additional siting of gas units are creating higher diesel costs, which were not foreseen in our base scenarios. For example, you need daily -- pricing notes on a daily basis, and these additional costs are not compensated by this research. While on the same line, hydrologic conditions are not helping this year. So instead, the high coal prices and hydrologic conditions this year continue to be in the pre -- close to the pre-'90s. And in terms of -- then in terms of IEM, it would be relevant for '19. On the other hand, the closure of coal units 12 and 13 will bring savings in O&M and CapEx compared to their capacity revenues, and this is why we're closing these units.

And finally, the interconnection is not currently at its full capacity. So an additional delay in the southern part of interconnection could have a negative impact in our margin in '19. But as I explained before, one of our top priorities is to monitor this project and take the measures from a portfolio management point of view to mitigate any negative impacts of this delay.

So we are very glad to confirm that the guidance and the first half results are in line with expectations, and we are proud of the operational and commercial efforts of our teams to meet these targets during the first half. We are fully committed to deliver the same performance in the second half of this year.

So now let's move to the next section. Marcela will give details in the evolution of our finance results.

[Marcela Lagos, executive]

Thank you, Eduardo. Hello, everyone. Please turn to Slide 23.

I'm happy to say that our results continue to be in line with our guidance for the year. We said that EBITDA would reach between $350 million and $370 million this year. And in the first half, we'll report $187 million. In addition, the green line with our forecast, this represents a $46 million EBITDA increase or a 23% improvement compared to last year.

The main driver for these results were, first and above all, the new PPA redistribution companies will contribute additional physical sale of 846 gigawatts-hours. Energy sales under these new contracts caused a $90 million increase in [indiscernible].

Second, we report a increase in physical sales to annually decline mainly due to the end of the revenue-returning PPA in August 2017, which was, however, partially offset by higher demand from other mining client sales. And lower physical sales to [ SING ] had a negative $10 million effect on [indiscernible].

Third, the absolute decrease in spot energy sales, which had a negative effect of $9 million on EBITDA. Moreover, in 2017, we had reported $6 million corresponding to capacity [indiscernible] as the reason, and these revenues were absent in 2018.

Fourth, fuel prices, especially coal prices, increased during the first half of this year. This has an effect on energy prices but also put pressure on our costs. This is one of the reasons why our fuel cost remains at similar levels than last year despite the decrease in our generation. The other reason is that our gas units were more frequently dispatched to cope with the intermittence of renewables generation. This led to a higher cost-fuel mix.

Fifth, we respond to higher energy purchases cost to supply the new contracts with [indiscernible] companies. In the second quarter, the spot prices increased because of dry weather conditions in Central Chile. The entrance, in fact, of our bridge PPAs with other generation companies mitigate these effects.

Finally, we have 2 positive effects. First, our 50% share in TEN net income, which we compute in our EBITDA calculations, increased by $4 million. And second, we report a $3 million insurance recovery from business interruption related to a [ production ] loss at our CTM3 plant. We saw a very positive semester with an 11% increase in physical sales and a 33% increase in EBITDA versus our projection.

Please turn to Slide 24 and look at the highlighted area in the center of the slide that shows the evolution of net recurring income.

Net recurring income increased by 91% to $83.6 million, clearly because of the stronger operating performance. Interest expense decreased as we have been capitalizing interest in our IEM and port projects. Now as communicated last month in a material event notice, we report a $52 million nonrecurring after-tax loss related to the impairment of the 2 coal-fired units, which we have been permitted to close in 2019.

We also have some nonrecurring insurance recoveries in both years. In the first half of 2017, we report a positive $8 million after-tax impact related to property damage at Unit 16, while in the first half of this year, we report $5 million in after-tax insurance recoveries related to property damage at Unit 16, CTM3 and the [indiscernible] PV plant. When including all of these nonrecurring effects, net income drops by 31% to $35 million.

Let's move to Slide 25.

Our net debt increased 80% to $830 million in the first half of 2018. Our main uses of cash were: one, capital expenditure of $117 million mainly related to the IEM project; two, dividends of $31 million, including $2 million paid to our planner in CTH; and three, income tax payment for $16 million.

We discussed [indiscernible] with operating cash flow, which reached $191 million after TEN new green taxes of $35 million last April.

Our gross debt increased basically due to 2 things. One, we signed a 20-year tolling agreement with TEN for the use of dedicated transmission system connecting our plants in Mejillones grid and national grid. The agreement has a present value of approximately $60 million and considered annual tolling payments of approximately $7 million. Two, we took 1 year total -- totalizing $50 million with Scotiabank and Banco Estado. With this, our short-term debt climbed to a total of $150 million at the end of June. But our cash balance increased by $56 million, thereby neutralizing the effects on net debt.

On Slide 26, this slide gives more detail of our liquidity and debt structure.

Net debt decreased to 2.6x the size in net debt -- the debt. This was due to the big improvement. Actually, in mid-July, we paid $35 million of our short-term debt, and we'll reduce our total short-term debt to $115 million.

To support our liquidity, we have a commit -- a revolving credit facility, which matures in June 2020. We have not used this facility so far, and we request the bank to reduce their commitment to $200 million, which we think is a good backup [ layer ]. We have taken 1-year debt with [ BCI and ] Banco de Crédito del Perú, Scotiabank and Banco Estado at a lower cost that we have drawn our liquidity facility. This will allow us to complete the financing of our [indiscernible] CapEx program at a lower cost while preserving our liquidity costs and keeping debt-to-EBITDA below 3x.

In terms of credit rating, it's a big concern each year where you see a BBB- Stable on an international scale. And so this is last June 6 upgrade, ECL national scale rating, AA-, last month.

Finally, on Slide 27, you can find information on our dividend policy, market capitalization and stock price evolution. Our dividend policy is flexible. And in the last 3 years, dividends have been [ united ] to 30% of the net income, the new [indiscernible] each year to support our CapEx expansion. The dividend [indiscernible] to be calculated on 2018 and will depend on the company's cash ability and financing requirements.

This is all on my side. And now I leave you with Eduardo to wrap up this presentation

[Eduardo Milligan Wenzel, executive]

Thank you, Marcela.

To conclude this presentation, I want to highlight the agreements we reached with our clients this year. The [indiscernible] information of our thermal portfolio and to confirm our guidance for '18 and for '19.

The first half results are pretty in line with the expectations. Hopefully, we will be able to deliver results in 2018 close to the upper limits of the guidance we provided.

2018 will be a solid year with a strong EBITDA organic growth, and we'll continue working to structure new and innovative solutions for our clients, which we believe will start to create value for our shareholders.

A final message. We are concluding our first half presentation. We hope the presentation was very [indiscernible] for you. Again, thank you for your participation. And as always, we are ready for any questions you may have now.

[Operator]

[Operator Instructions] Our first question will come from Andrew McCarthy of Citibank.

[Andrew McCarthy, analyst]

My first question is with respect to the 2 projects, renewables projects that you're focusing on or trying to get sort of ready-to-build status. I gathered from the presentation more or less with Calama. Could you also provide information which is the other project that you're prioritizing? And then my second question was on the possibility of extending a portion of the bridge PPAs into 2019. I was just wondering if you could provide any color on how you think that could impact your EBITDAR and net income guidance for next year.

[Eduardo Milligan Wenzel, executive]

Andrew, thank you. Well, in relation to projects under development, yes, at least one of them is Calama. This is one of the 2 projects that we intend to have ready next year. It's a wind project. The other project is a PV. It's a solar one, which, again, as we explained, our intention is to combine solar with wind. So the development of one should come together with the development of the other. And the other project is a solar PV that we have in the north, and the idea is to [ tie ] also the second project during next year. Then in relation to PPA, yes, we are still analyzing if we can extend a little bit the duration of these PPAs. But in fact, this could -- these bridge PPAs could be again extended for the long term. Why? Because at the end, what these PPAs are providing us is exactly as a -- it's a financial hedge like an effect or for commodities. It's exactly the same. So what we are currently evaluating from a portfolio point of view is the duration of this type of hedges. This could be something that we may be able to do for 1 additional year, for 5, for 3. And we expect to finalize this analysis during the next months. At this stage, an impact on the EBITDA, we do not have ready those figures to provide some guidance on that, but give us one additional quarter and probably we'll come back with something to [ deep dive ].

[Operator]

[Operator Instructions] This will conclude our question-and-answer session. At this time, I would like to turn the floor back to Engie Energia Chile for any closing remarks.

[Eduardo Milligan Wenzel, executive]

Well, thank you very much for attending this call, and see you soon. Thank you very much. Bye-bye.

[Marcela Lagos, executive]

Thank you. Bye.

[Operator]

Thank you. This concludes today's presentation. You may disconnect your line at this time, and have a nice day.