Basic Sanitation Company of the State of Sao Paulo SABESP

SWB:SAJA

Earnings Call Transcript 2020-Q3

[Mario Sampaio, executive]

Okay. Good morning, everyone, and welcome to the SABESP's video conference to discuss the results for the third quarter of 2020. My name is Mario Sampaio. I am Head of Capital Market and Investor Relations.

Let's start by informing all participants that this video conference is being recorded. The presentation accompanied by slides is being transmitted over the Internet through the website, www.sabesp.com.br and through the MZiQ platform. Presentation will be available for download on the same portal as well as the results release. We remind you that the questions will be accepted to the speakers only through the videocast platform. Our conference will take approximately 1 hour and 30 minutes, and we will reserve 45 minutes potential questions and answers from analysts and from journalists.

Before proceeding, we would like to clarify that any statement that may be made during this conference relating to the company's business prospects, projections and operational and financial goals constitute the beliefs and assumptions of SABESP's management as well as information currently available for the company. Future considerations are not guarantees of performance. They involve risks, uncertainties and assumptions as they refer to future events and therefore, depend on circumstances that may or may not occur. Investors should understand that the general economic conditions, industry conditions and other operating factors may affect the future results of the company and may lead to results that differ materially from those expressed in such forward-looking statements.

Today, with us, we have Mr. Rui Affonso, the Chief Financial and Investor Relations Officer; Mr. Marcelo Miyagui, Accounting -- Head of Accounting; Mr. Agnaldo Pacheco, Controller -- Company Controller; and Mr. [ Luis Tiberio ], Head of Costs and Tariffs.

Well, we have a presentation to go through. But before we start, I like to make some general considerations on the company performance in the period. In this quarter, with the pandemic crisis still in course, a crisis that imposes caution and challenges in the economic field, we observed the initial resumption of economic activity with some sectors in the reopening phase. However, the recovery has still been very timid and at a slower pace than desirable. This is reflected in the company's results with a directed impact on revenues as a consequence of the change in the consumption mix due to the increase in volumes in the residential category and reduction in volumes from the industrial and commercial who's -- that have average tariffs higher. But all in, leading to a reduction in the total average tariff.

In addition to this, we also had higher delinquency levels.

We recently started our water year that went from October to March. So let me -- let's remember how that went last year -- the hydrological year went. In terms of water resources, we have been experiencing a period of severe drop and higher temperature. I noticed that the works carried out in the last few years, especially those that were -- that added more water capacity during the water crisis have proven to be efficient, eliminating the risk of water shortages in the metro region of Sao Paulo. Considering that the rainfall season then starts now started in October, rainfall is expected to increase and water resources are expected to return to more comfortable levels in the next few months.

It is important to highlight that as in the water crisis today, in the context of the economic and health crisis, we maintained a strong level of investments despite all these events. From the financial point of view, we have taken a series of measures aimed at strengthening the company's liquidity and mitigating the effects of the exchange rate uncertainty and volatility, exchange exposure.

In this slide, we issued the 26th debenture in the amount of BRL 1,045,000,000 during the third quarter, which adds to a total of BRL 2.5 billion, so far debenture issuances this year. We also prepaid the $250 million foreign currency dollar, foreign currency debt of the Eurobond that would mature on late mid-December. In May this year, let's remember, we had already exchanged debt from an IDB loan of $494 million when we changed it to reals, representing BRL 2.8 billion.

If we combine these 2 movements, we reduced exposure to foreign currency from approximately 49% last quarter -- last year to 25% this year, reversing, thus, this adverse situation of a high financial expense due to the increasing devaluation of the real against the dollar and increased at the meantime, the company's resilience to this factor.

We also obtained from BNDES the postponement of interest payments in operational notes that stand still in the amount of BRL 131 million that were maturing during this year, and we preserved our cash by using guarantees, insurance to avoid cash outflows, so far BRL 220 million. Also, this month, we signed a financing -- in fact, a loan agreement with the IDB Invest, IDB Invest is the private area bank of the IDB group, that is in the total amount of BRL 950 million. These actions resulted in the maintenance of liquidity and payment capacity, ensuring the execution of the expected investment of BRL 3.5 billion this year. In fact, in the third quarter, we invested BRL 1 billion and in the 9 months, we already had BRL 3.1 billion.

This quarter was also marked by the bidding process for rendering the service in the metropolitan region of [ Masela ], taking advantage of the window of opportunities that arose after the approval of the new framework from the sanitation sector. We participated in the competition with a minority stake in a consortium with a private partner. This move is to show that SABESP is prepared to expand markets and participate in other competitions in the future.

With regards to regulation, we had the tariff adjustment of 2.49% to 4% and plus the compensatory adjustment of 0.888% this last -- due to the postponement of the application of the adjustment in April, resulting then in a total adjustment of 3.4026 in effect since August 15, which, being in effect since August, also partly offset the adverse effect on revenues that we had during the period.

Okay. Let's now go to the slides. Let's start on Slide 3. Okay. Here, we can see a 4% increase in total billed volume in the quarter, 3.1% of which was from water and 5% for sewage, excluding Maua/Santo Andre and the retail segment of the residential, social and favela categories, the total increase was 0.6%.

Similar to the previous quarter, volume growth was anchored in household consumption with the residential category, increasing by 3%, while non-residential categories fell by 14.7%.

Let's now move to Slide 4. Here, we go through our financial highlights. Income totaled BRL 421.6 million in the third quarter of 2020 compared to BRL 1.2 billion in the third quarter of '19. The decrease was due to the nonrecurring revenue recognized by the signing of the agreement of the municipality of Santo Andre in the third quarter, which resulted in a negative variation of BRL 1.3 billion compared to the same period last year. This is -- this impact on the result was offset by efforts to reduce foreign exchange exposure, as already mentioned, with the currency exchange of the debt, especially the IDB debt with close to BRL 500 million. And then with a positive effect on the result for the period of BRL 395 million.

Net operating revenue fell by 18% from BRL 5.4 billion in third quarter '19 to BRL 4.4 quarter -- billion in this third quarter '20 due to the effects arising from the agreement -- exact agreement signed with the municipality of Santo Andre in the third quarter of '19. This then resulting in a negative variation of BRL 972 million in the period. Added to this was the effect caused by the change in our tariff mix with the residential category with lower tariffs accounting for a greater percentage, contributing to the reduction of revenue in the period -- costs in the period.

Costs, administrative selling expenses and construction costs increased by 20.5% in the period, contributing to the reduction in operating margin. Excluding construction costs, the increase was 11%. Consequently, adjusted EBITDA was significantly affected, falling from BRL 1.5 billion -- falling by BRL 1.5 billion from BRL 3 billion in third quarter '19 to BRL 1.5 billion in 2020.

The adjusted EBITDA margin fell from 55.6% to 34.1% this quarter. On a 12-month basis, the margin was 35.8%. Excluding the effects from revenue and construction costs, the adjusted EBITDA margin was 44% in the third quarter of 2020 compared to the margin of 63% in third quarter '19 and 44.3% is the last 12-month margin for this quarter.

In summary, the drop in EBITDA was due to the nonrecurring events of the third quarter of '19, added to the deterioration of the economic condition of the period.

Let's go now to Slide 5 to analyze costs. Compared to the same quarter in '19, costs, administrative selling expenses and construction costs increased BRL 588 million or 20.5%. Construction cost increased by BRL 346 million compared to third quarter from BRL 683 million to BRL 1 billion due to investments in the construction of assets, I mean, more investments. However, excluding construction costs, cost and expenses increased by 11% from BRL 2.2 billion to BRL 2.4 billion, a variation of BRL 242 million. Among the most significant variations are salaries, payroll charges and benefits and pension plan liabilities of BRL 152 million or 29.5%, mainly due to the negative variation of the reversal of expenses in the third quarter of '19 related to TAC, the retiring program, in the amount of BRL 173 million.

Excluding this nonrecurring effect, personnel expenses would have decreased in the quarter, explained mostly to the average reduction of 2.8% in the number of employees, mainly due to the gradual employee termination under the knowledge retention program we call PCR (sic) [ PRC ]. The variation is an estimated loss on allowance for doubtful accounts in the amount of BRL 112.7 million also contributed significantly when compared to the same period of last year. This was partly explained by the reversal of BRL 51.5 million in third quarter from the agreement with the municipality of Santo André and also by the increase in the level of default caused by the economic instability worsened by the COVID-19 crisis.

Let's now move to Slide 6. Here, we will analyze briefly the main changes that affected the net result. Net income fell by BRL 787 million, as previously explained. Net operating revenue decreased BRL 972 million. Cost and expenses, including construction costs, grew by BRL 588 million. Other operating revenues and expenses, including equity results, came in negative by BRL 11.7 million. It's worth noting that our financial results, which had a positive variation of BRL 389 million was mainly due once more to the company's management to reduce the FX exposure. Finally, income tax and social contribution fell by BRL 395 million in view of the lower taxable income recorded in the quarter when compared to the same period last year.

So let's now go to the next slide, Slide 7. Here we'll briefly comment on management performance indicators, although the gross revenue per billed cubic meter indicator was 8.6% lower in the third quarter this year over third quarter last year. This indicator has been reporting a growing average monthly increase, as you can see on the top left.

Operating expenses per billed cubic meter increased in a controlled manner and compatible with the growth of our operations. In third quarter '20, these expenses increased by 11.5% over -- decrease, sorry, by 11.5% over the third quarter '19, in line with the budget adjustments we've made in the second quarter of this year of BRL 300 million, which we did comment on our first quarter call, and another executed in the third quarter of an additional BRL 150 million. As a consequence, the third quarter of 2020 had a positive evolution compared to the beginning of the year despite being 10.4% lower than results in third quarter '19, as you can see on the top right.

On the bottom, you can see the average evolution of the indicator EBITDA per billed cubic meter. That has also a growth trend in the period. This illustrates that despite the adverse scenario, we managed to reduce expenses, offset lower average tariffs and maintain cash generation levels without neglecting our investment plan.

Let's now quickly talk about regulation on the next slide. Okay. First, this is basically let's talk about the third ordinary tariff review scheduled for completion in April 2021. The report on the regulatory asset base and the business plan have already been delivered to ARSESP. And in January, the preliminary P0 will be released. It is worth remembering that until the conclusion of the review, there will still be some important steps and public hearings for the calculation process of the average tariffs, so let's keep an eye, still within the scope of our ARSESP '20 to '21 regulatory agenda. We contributed with a public consultation regarding losses. And we are currently working on another that addresses the criteria for sharing alternative revenues. We still have other topics on the agenda, such as conservation program for water resources of [ assets of ] excluded made by the asset base for the first tariff review and detailing of the risk metrics.

Regarding the exclusions made at the asset base in the first tariff review, we're working on this analysis, and we'll present our study shortly. The revision of the tariff structure is expected to be concluded by March 21, but it's important to note that the future structure may differ from the current one. Thus, the required revenue that will be allowed will be distributed within the new tariff structure, which means that there may be different tariffs per category that we have today. So there's going to be a new distribution.

Let's now move to Slide 4 (sic) [ 9 ]. Let's comment then in a little bit more detail on the water situation of the reservoirs and the metro region of São Paulo. The '19/'20 water season that ended in September had a lower than average rainfall. The Cantareira system received 74% of the expected volume while the Alto Tiete received 72% and Guarapiranga system, 68%.

Next slide. With inflows below average of the 3 main supply systems, the Alto Tiete has been recording inflows close to its minimum historic levels. As you can see, they went very low.

Let's go to the next slide. Considering the integrated system for the entire metro region of São Paulo, the system's total available water volume for October 31 was 45.7%. Although this volume was lower than the same period in '19, it is 1% higher, as you can see, from 2018. It's worth noting that the drop in water reservoir levels between April and September is normal as the rain season concentrates between the month of October to March. So the purpose, obviously, of the reservoirs to guarantee water supply during April and September when rain falls less. Spike rainfall, then following less than expected, as we saw, we can observe that the water shortage -- storage, sorry, from the water sources that supply the metro region of São Paulo is under control. The construction works that we carried out, such as the São Lourenço production system and the Jaguari-Atibainha Interconnection increased the system's water security for the network of São Paulo during the periods of the -- this period of lower water availability and stress.

Let's -- next slide. Finally, it's worth noting that the impacts of the economic crisis and consequently, of the average income of families, combined with the pandemic, brought a change in the consumption pattern of the population with an increase in residential consumption. And as already mentioned, a drop, significant in commercial and industrial production, maintaining -- although maintaining practically the same volume produced. As you can see in the graph, average production in the São Paulo metro region in October was 63.3 cubic meters per second and volume, 500 liters per second lower than in October 2019.

Well, before we finalize, I would like to briefly detail on the company's debt and liquidity management. As already mentioned, the company has been working to guarantee the execution of investments and to meet debt maturities, maintaining its assumption for a strong cash position and lower exposure to foreign currencies. With the approval of the stand-still agreement on BNDES financing contracts, which, in fact, provided the suspension of debt services for 6 months, SABESP has a cash release, as mentioned also, of BRL 131 million until December this year.

Detailing more, this month we formalized the financing -- the loan agreement with IDB Invest. The amount, just to remember, is BRL 950 million and in 2 tranches. There's a long tranche with long [ terms ] of BRL 508 million, which proceeds will be invested in 2 projects: the Novo Pinheiros project and a renewable energy plant -- plants, in fact, our many plants are solar plants. And the second tranche in the amount of BRL 442 million, the proceeds will be used to refinance debt, including the Eurobond. The transaction is unsecured, and the total borrowing amount will be disbursed one time by the beginning of this year. So this is a very emblematic move. It is a multilateral lending in reals, lending with no guarantees and associating to investments and to cash support and refinancing. So this is very important.

At the end, such funds will be relevant to further and simultaneously preserve our CapEx execution capacity and support our liquidity.

So that's basically what we have for the slides. We're now open for questions.

[Mario Sampaio, executive]

So let's see if we have yet a question. We have -- I'm opening for question, guys, okay? We have one question that I can see here. And in fact, one second. As I was speaking, I did not check.

Okay. We have one question from Lilyanna Yang from HSBC. The question is -- there are 1, 2, 3 questions. First, can you please update us on the presidential beacons on the June approved federal sanitation build, which are pending analysis of the Congress and are relevant for SABESP? That's one question. Second question, can you discuss the appetite for new processions out of São Paulo state and rationale of partnering with [ IGUA ] as opposed with other private-run players who are as opposed to bidding alone? And the third, can you please quantify cost impacts and savings with your ongoing voluntary plan and other saving initiatives. Rui, I'm addressing this to you. Do you want me to repeat first -- the question?

[Rui Affonso, executive]

Mario, I believe that I've got it, the first one. My understanding is from the many of vetoes that are be -- in discussion in the Congress to reject it or to approve it at all, as it is right now because the law is effective right now, if the Congress stands still and don't make any change in order to the veto -- presidential veto -- vetoes. The main important impact for SABESP could be the one that if there are drop-down by the Congress allow the extension of the modality of program contracts for us and for everybody. In our case, it's not some deal issue, the [ broken ] issue, because it's -- as you are following, especially you, Lilyanna, we have assured great part, both parts of our contracts before the law was in action. So we don't have a major problem in that.

If there is any change in this veto, the extension of the terms that make us more program contracts will benefit us as well. So I cannot see any major impact on our site.

[Mario Sampaio, executive]

Okay. The second question is, can you discuss the appetite for new concessions out of São Paulo state and rationale for partnering with IGUA as opposed to with other private run players or as opposed to building one alone? Rui, yes, back to you.

[Rui Affonso, executive]

Okay. Where we do have an appetite to dispute some contracts and concessions outside São Paulo. At the very beginning of this movement, as you all can see, there is still some work in progress inside BNDES that's formulating some valuation and some rules for different state companies for privatization of open to concession in the new regulatory framework. So we are also analyzing and preparing ourselves to compete and to participate in those deals. We don't have a specific disclosure, but we want to -- we have made the movement very carefully when possible to make in a partnership with the private sector, ideally being minorities in order to have the most as possible, the flexibility to operate in a partnership with the private sector. So these are the general guidelines in order to move ahead.

[Mario Sampaio, executive]

Okay. The third question is, can you please qualify cost impacts and savings with the ongoing voluntary plan and other saving initiatives?

Can Rui address that, too?

[Rui Affonso, executive]

In the conference call of this early morning here in Brazil, we have comment on the provision we have made to dismissal for those remaining employees through the end of this year. So the deadline is the end of the year. There will be approximately total around 1,000 employees -- senior employees that will be dismissed. And part of that have already been [ dismissal ] already. And we have made a provision. I believe it's BRL 130 million. Maybe [ Miyagui ] would correct me if I'm wrong. And we do expect an important next-year result return because they are senior officers, so the highest salaries we have in the company. So the proportion is that. But 1,000 -- we have made the provision of BRL 130 million, and we expect a good result from this [ payback ] from this retirement plan.

[Mario Sampaio, executive]

Okay. Well, we're open for questions. There seems -- we will wait a little bit more for some more questions? Don't see questions. Okay. Well, Rui, let's do this. Let's end, but -- so I don't see any questions coming in. So I pass the word to you, so you can close the conference call, please?

[Rui Affonso, executive]

Yes. Well, we wanted to thank you all. I believe there is a final question now.

[Mario Sampaio, executive]

Oh, I'm sorry. Yes. Yes, I got confused. I truly apologize. We do have a question. Thank you, [ Berio ]. Thank you very much. I don't know why I got -- I think I have too many screens in front of me, I got a little bit lost. Sorry for that. And sorry, Alejandro Demichelis from Nau Securities. So Alejandro -- the question Alejandro has is, could you please indicate how you see the evolution of delinquencies in the coming quarters? And what actions SABESP is taking to reduce that? And good, we've got another question. Okay. Can you guys -- Rui?

[Rui Affonso, executive]

Well, the delinquency rate is -- we expected the coming together by the hand with the economic situation of the country and the employment rate in Brazil. Those rates goes up during the crisis, unemployment rate. So we have seen this delinquency rate goes up also for everybody and for SABESP also. We expect with -- in the coming months, little by little, a recovery on those payments or the reduction of the delinquency. It's difficult to estimate how much because it doesn't depend only on the SABESP measures because those people don't have, say, their jobs. They're losing money, they're losing their wage. So it's a very difficult situation that are not under the control of the company. Different from a normal situation, day-by-day situation. So it's difficult to predict. The prediction of the delinquency rate depends on the prediction of the economic crisis and the pandemic crisis. So they are together. We expect it as the economy comes back, we reduced also the delinquency rate to our historical levels. That's it.

[Mario Sampaio, executive]

Okay. We have Hasan Doza from Water Asset Management asking us to talk about tariffs. But that's a very broad question, not even a question. And Hasan, we'll wait a second, but could you be a little bit more specific on 1 or 2 topics you want us to dig in more? Is it possible? Or else, we're going to be very generic here on what we're going to say. Okay. Okay, guys. Hasan has sent us here one point to begin. First, he would like us to go dig in into the rate-based issue. Tiberio or Rui, you guys decide. But I think the rate base is the first. It's very broad, but it's the first point, I think, Hasan wants us to give him our view of how things are going on. So a word, please. Or Tiberio, you guys take it.

[Rui Affonso, executive]

Tiberio, do you want to comment on that?

[Unknown Executive]

Yes. I can do that, no problem at all. So well, first, I would understand the rate base has been part of our weighted average cost of capital. That has been defined in the last quarter as 8.1%. Obviously, in a broader question, the thing that we should be commenting on is it's pretty much in line with what we had before. Like we had 8 11 before, now 8 10. We were able to improve our own capital rate on this 8.1%. And obviously, we expect the rest of the tariff review process to be also very transparent and very in line with a balanced tariff review process. And that being so, obviously, we would be very much happy, if I may say that word, with the outcome. It's important to mention that we have delivered our regulatory asset bases to the regulator early this month. And the next step of the tariff review process is in mid-January when the regulator is going to publish the p0 -- preliminarily p0 amount. Obviously, between now and then, we are exchanging a bit of information where we clarify the regulatory plan that was delivered to them. They come back with questions, we are answering them. Also, they have a few other steps on the regulatory agenda in regards to other revenues, for instance, that are shared with users.

So right now, 100% of all the revenues that the company has access to is being shared with users. We want to reduce this percentage, obviously, so that the company could profit on this portion. And the other important part of the tariff review process is related with the adjustments we had in our first regulatory -- in the first cycle when the regulator looked at the regulatory asset bases. We want to review some of the cuts we had in that process. And we should be -- we are concluding these studies on that, and we should be delivering our report to the regulator from now to the end of the year. I guess, that kind of covers not only the rate part, but also the entire regulatory review process.

[Mario Sampaio, executive]

Okay. Hasan -- I think, Hasan, while you were talking, he may -- but see if we covered -- he basically asked if we could comment on the asset base, especially the recovery in the past dispute from the last tariff review you just mentioned?

[Unknown Executive]

Yes.

[Mario Sampaio, executive]

Okay. And the second is to hear your views on the preliminary technical note process scheduled for 2021. Did you -- if you have any other comments on that one?

[Unknown Executive]

Yes. Okay. I mean, everything is moving towards having, as I mentioned, having a p0 in mid-January. We are receiving a few questions from the regulator. Even if you were to look at our process like water loss process, the regulator has published it. It has gone for a public consultation on it and has received [ advice ] on some of the feedbacks. Obviously, SABESP producing some feedbacks and regulatory is processing that. So everything is moving towards the belief that we should conclude the regulatory tariff review by mid-April. The next important step is actually mid-January, January 14, if I'm not mistaken. So that's the idea that it's moving as expected.

[Mario Sampaio, executive]

Okay. Let me see if we have more questions coming in. Any more questions before we terminate? Let's wait. Let's wait a couple of seconds here. There's a delay here. There's a delay. Okay. Please correct me if I'm wrong, but I don't see any more questions and -- Rui?

[Rui Affonso, executive]

Yes.

[Mario Sampaio, executive]

I -- it seems that we do not have more questions. I don't get any parts up telling me there's another question, so -- there is one. There is one. Just arrived. Wow, landed one from Lily. Okay. Follow-up to Tiberio from Lily, HSBC.

The regulator has been soft on SABESP, asking it to be very efficient, more than local Brazilian [ pickers ]. Is the methodology changing so as to be more beneficial to SABESP? Will the regulator include the [ raps ] of Santo Andre, Maua, Guarulhos, this 2021?

[Unknown Executive]

Interesting question. Beneficiaries. Yes, I mean, there's a lot of interpretation around beneficial rights. SABESP doesn't want a beneficial outcome of the regulator. That kind of could be -- could lead to the impression that there is a favor there. We just want a transparent, balanced process. That's it. And the rest, we believe we can deliver. So that's -- I wouldn't use this word at all. We want a balanced, transparent process. And that's what we are getting so far. So as I mentioned, I should be careful with the word happier, and I'm using that due to the lack of another word in English right now that comes into my mind. But as long as -- yes, as long as the process keeps ongoing the way it has been going for the last few months and weeks, we will be satisfied with it. That's -- satisfied is a better word that we can have. Now in regards to Santo André, Guarulhos and Mauá. Guarulhos is already in the regulatory asset base report we delivered to the regulator on November 3, so there should be no reason for the regulator not to consider that. In regards to Santo André, we're going to conclude that by end of the year, and we should be delivering something to the regulator by then. Obviously, in that situation, there is a bit of a gray area in there as we have asked the regulator to consider anything by December 20. But the regulatory asset base report up until June 19 was delivered in early November. So there is a bit of a gray area there. We want the regulator to consider that. And some of the communication extended to the regulator also takes that into account. So there is room for the regulator to consider that, but is subject to the process within the regulatory body, which I really can't comment on. And Mauá -- the likelihood of Mauá getting to the regulatory base for this cycle is low to none. Actually, it's none, to be honest.

Important to mention is that the fact that it's not getting there on the economic side means that we will be considered in the next tariff review process, back to the date it was incorporated in our regulatory asset base. So there is no loss -- no economical loss, in this process. Obviously, there is a liquidity, if you will, to consider. But other than that, there is no economic loss.

[Mario Sampaio, executive]

Any more questions? Still no questions. Let me keep a close eye here, which -- things come in very quickly. Okay. Let me ask. Okay, Rui, so I think we don't see -- I don't see, on the stream here, any more questions. So the word and the floor is yours, Mr. Affonso.

[Rui Affonso, executive]

Thank you, Mario. At this time, I would like to thank you -- all of you who join us in this third quarter results conference. And we're looking to see and to listen to you in the next quarterly conference results call or any moment with our IR team, this is lead by Mr. Mario Sampaio, [ and all of our team ]. Thank you very much, and good day for everybody.

[Mario Sampaio, executive]

Good bye.