ADAMA Ltd

SZSE:000553

Earnings Call Transcript 2024-Q1

[Zhi Guo, executive]

[Interpreted] I am Guo Zhi, Corporate Secretary and Legal Counsel of ADAMA Ltd. Welcome to joining us for this Q1 session about our performance during the period. We are providing the simultaneous interpretation of both English and Chinese. I believe you can see a selection button for the 2 channels to select which language is suitable for you. Today, together with us are our CEO and President, Mr. Steve Hawkins, our CFO, Madam Efrat Nagar, Madam Rivka Neufeld, Global Investor Relations Director. They are dialing in from our overseas headquarters to meet you all online to present to you how ADAMA has performed in the first quarter of this year. And following the presentation, they will also answer your questions. [Operator Instructions] And you are kindly reminded to read carefully the legal disclaimer. So now I will give the floor to our CEO and President, Mr. Steve Hawkins.

[Steve Hawkins, executive]

Thank you, Guo, and good afternoon from myself, and welcome as well to our Q1 results. Thank you for joining us on a very busy time. And in fact, holiday week, as I understand in China and myself, I just returned from China a couple of days ago. So if we begin with the financial highlights. For sure, we start to see a business quality improvement, which, of course, has been our focus and specifically on gross margin and cash, and Efrat will get into some details of those. And we believe we're seeing our strategy implemented with more differentiated products and overall, a more positive sales mix, along with continued focus on improving the overall gross margin and things that we learned last year during the very difficult situation in 2023 with the market is how to much more strongly manage our inventories. Again, Efrat will share some of the details there and the benefits overall to the company. And as the market continues to be difficult, we do focus very strongly, continue to focus on the operational cost of the overall company. And that includes the financing of the company. Of course, the overall interest rates globally continue to be at a higher level for sure than they were before 2023. So those are some of the financial highlights. I'll get into some of the details. If we go to the next slide, please. And as we see overall sales are well below what they were in Q1 2023. We see the decline in both prices and volumes related to, again, a very different market situation now that we see 1 year later. And this continues to be the trend that we see in the market with lower active ingredient prices, in particular, those being sourced from China and India. And as we've shared with you over the past year, this "wait & see" mindset on the sales side, in particular, with many of our products across the globe. If we move down to the gross margin line, we can see again that things have slightly improved based on our focus on our mix and our differentiated products, managing more tightly our inventory, and starting to see some of the benefits of lower cost of goods based on the new product production for this season. At the EBITDA line, of course, continues to be challenged overall, certainly versus Q1 of last year, and we can see $22 million down on OpEx -- sorry, on OpEx line contributing to EBITDA. And that's been helpful, and that's been part of our turnaround strategy, as we've shared with you before, and we will continue to manage in this environment very tightly on our OpEx. And unfortunately, at the net income line, we did see a loss in Q1 and Efrat will help with some of the details as well explaining on our financing costs, which also somehow contributed to those to the net income loss overall. If we move to the next slide and we go more on the geography side. So next slide, please. And this is where we start to see a continued consistency on a weakness of demand. If I start on my top left, which is the North American business, we did see -- and do see a recovery in the consumer and professional business, both in prices and volumes. So that's somehow more stable. We do see continued challenges also based on a delayed spring weather-wise in North America, both the U.S. and Canadian agriculture. So for sure, not the steep declines we saw, if we talked about Q2 and Q3 of last year year-on-year. But if we compare of course to Q1 last year, we definitely see a decline there. If I switch to the other Northern Hemisphere market, on the right-hand -- top right-hand side for Europe, we do see quite a challenging market for Europe, more challenging than we expected on the volume side. Prices overall have held reasonably well, although they were pressured early on, and we see Q1 15% down in dollars in Europe based on quite a slow market. And if we move down to some of the other markets in LatAm, for example, it's not the core part of the season for LatAm. We do see, in particular, on the channel stock a more difficult situation in Brazil, specifically leading into the second half of the season, which, of course, is their main season. And LatAm is the continuing trend of "wait & see", although a very differentiated market. And we do see some more positives, for example, in Southern LatAm, the Northern LatAm. APAC overall, again, other than India, a relatively small business for us. And at this time, for India, it's a lot about the monsoon. So it's all dependent on the weather situation where I was in India myself a few weeks ago. The team is very prepared for the season. The market is relatively stable, having the same dynamics as the global market, but I would say more stable. And so it's a matter now of seeing how the weather cooperates for the demand situation, and I'm sure many of us here are more aware of China, where we continue to see a challenging spring season, some weather events, unfortunately, quite dramatic weather events in the south of China. And we do see growth for sure on the brand, [indiscernible] unfortunately, we do see, based on the global situation with demand, continuing challenges on the commodity products on the active ingredients on the nonagricultural business and on pricing in federal. So more of a mix story for China. And again, unfortunately, like many of the other Northern Hemisphere markets, challenging spring weather to start. So that's how we see year-on-year Q1 in the different areas, some of the different dynamics. I'll now hand over to Efrat. Please do get into some of the financial details to explain what's behind. Please, Efrat.

[Efrat Nagar, executive]

Thank you, Steve. So before speaking about Q1 sales, I think it's -- as mentioned by Steve, it's very important to remind us all that Q1 last year was basically the best quarter in the market and for ADAMA for the all 2023 -- 2023 year. And we have reached in Q1 2020 fall to around $1.1 billion. This is 16% lower than when -- what we achieved in the best quarter last year when the market dynamics was totally different from the current situation. And we see a 5% reduction in volume and 10% reduction in prices. This is due to the low demand in the market due to the overstocking in 2022 interest rate and environment, also supporting all the channels to reduce inventory levels. And of course, the lower prices from China for active ingredients and for protection product also supporting weight and see approach, which, of course, impact our level of steps. In the next slide, we can see that this also impact our gross profit, which reduced from $340 million in Q1 2023 to $288 million in Q1 2024. We can see here the impact or the negative impact of the quantity and the prices that we saw in the sales also in the gross profit. However, we see high level of impact from cost benefit because of our inventory management, procurement management, that we will see later on also reflected in our cash flow, we see that we are already benefiting from the prices in the market, $95 million better cost. This is the third quarter in a row that we see a positive impact from cost and it's very important to mention that also our gross margin is improved versus last year, 27.2% versus 27%. This is also due to our quality -- focusing on our quality of business from last year and continue to 2024. Our EBITDA decreased from $165 million to $132 million in this quarter. So somehow by -- why we try to manage better our OpEx management. As you remember, we started with this approach during 2023 to 2024. So the baseline of our OpEx is extremely low 2023, although we succeeded even to reduce more our OpEx, and this is also supporting our EBITDA performance. In the next slide, we can see our cash flow performance. But before speaking about the numbers, I want us to understand that Q1 in a demand is usually a negative cash flow, we have generating negative cash flow mainly because of the seasonality. This is a quarter that we see lower collection, but we all see higher procurement in order to address the demand in the rest of the year. Checking our cash flow performance in this quarter versus last year, specifically versus Q1 2023 that I will mention in a minute, we see that this is basically the best quarter from cash flow performance and specifically versus Q1 2023. So we see that although we have lost a $44 million, although we see a more challenging situation in the market, we have succeeded to manage our cash flow and to generate $322 million more operating cash flow and $348 million free cash flow. This is mainly because our tight collection because we are managing our investment, our CapEx invested, putting prioritization only on must have CapEx investments and, of course, from our decrease in inventory due to our tight inventory management that in the next slide, we can see that our inventory level reduced by $700 million for the peak of $2.5 billion last year to $1.8 billion this year, and it's more than that, it's reduction of funds from the end of 2023. So not only versus the peak on Q1 2023, we see also reduction in the inventory level from the end of 2023. It's also important to mention that the reduction in inventory is also in the finished goods. Finished goods, it means that this is a product that already packed, already labeled. So the flexibility on selling them is very low. We have flexibility, but it's lower than other products. And we see second quarter in a row that we are reducing this finished good level, which means that we will be able to fulfill the demand of the market with fresh and low-cost inventory that will enable us to compete in the market in -- during 2024. And with that, Steve, you back. Back to you.

[Steve Hawkins, executive]

Thank you, Efrat. So we'll come back to some of the turnaround plan that we have spoken to you about over the past year. And the first one is to clarify that we have very strongly repositioned the Company in the market and internally as a value innovation company. Asian is the middle segment of the market globally that is growing the fastest, and this is where our Core Leap Strategy has been focusing to develop our new portfolio. So we're very excited, and I've had the opportunity to share and discuss this with our teams in China and India. I will soon be heading to Brazil. We have a number of markets and [indiscernible] in India that are headed in this direction already and will be implementing strongly in the 2024 season. This concept of focusing on the more innovation versus the commodity part of the segment. And the good news also is this does allow us a faster implementation of our Formulation Mastery Strategy that we've been speaking to you about for the last year. So overall, we see ourselves as much more an innovation company, [indiscernible] value and bottom line over time for our business. If we go to the next slide, just to give you a sense of the plan as a value innovation leader in the market. We can see some of the core financial KPIs that we have also shared, Efrat just gave you, I think, some really strong progress, for example, in cash management as we learned last year, operational effectiveness and overall margin improvement. Those are our 3 KPIs that we're focused on as part of this overall delivery. You can see on the left-hand side, to deliver on this, we need to focus on more commercial excellence. So this is the positioning and pricing of our portfolio in the market, for sure, continued operational efficiency, not only in the overall market of the company, but also, for sure, in the manufacturing area, which for us is continuing to improve our cost of goods overall. And both those activities will also continue to support the turnaround and the cash flow management that you've seen over the past year. Now if we go to the right-hand slide, I'm going to walk through a bit more detail in many of these categories. So if we go to the first one, if we go to the next slide, you'll see leadership team structure. I have mentioned to you that over the past year, there's been a number of changes, which are now finished with the senior leadership and changes at the top of the company and 2 major changes that are contributing to our financial KPIs. One is greater focus on the R&D part, the development part of our company overall, and this is to shift our Core Leap portfolio and the development of higher-margin differentiated products and accelerate that implementation program in the market. So that's a major change that we've made at the top of the company structurally. And the second major change is if you go to the next slide, is which markets and which crops, we will focus our portfolio on. So as we've seen the market globally change quickly in the last year or so, we see really a segmented or evolving different profit possibility in different markets. So there's core markets for us like Brazil, India, U.S., Western Europe, where we have a good portfolio. We have good teams that are delivering market share growth in a profitable way. As a company overall, we want to focus more on those profitable markets. And we want to wait less on the markets that are highly commoditized and where farmers and local distribution, we don't see them rewarding us for the innovation that we can bring farmers. So that's a second major focus area on the turnaround is focusing on specific market segments. If we go over to the next slide, the portfolio part. The good news is we have a strong start. This, again, I mentioned Core Leap because it's such a core important historical decision of the company, where we will continue to focus on higher-margin, more differentiated products, again, that are fit for the local markets, crops, pests, resistance management, ease of use formulations that fit the future market. And that implies that some of our portfolio with less innovation, we want to transition from those areas of our portfolio. So we will be bringing new products on the range and exiting other products that we see less fitting our business model in the future. And we have a fantastic pipeline. I had the opportunity to join the launch of the Road to 200, which was our launching of our new fungicide portfolio in Europe at the end of last year, and this really shows the future of the company. If we go to the next slide, this is more on the cost of goods. So I've talked more on the innovation and product launching side. If we talk about the cost of goods, one of the changes we made at the top of the company is a greater focus on AI management and production. And this is now the focus on what we're calling here is network optimization. So this is, Efrat mentioned earlier, an important differentiation between finished goods products and active ingredients. So this is how we manage our supply chain globally and making sure we have the optimized supply chain, especially as we see some of the challenges globally of logistics continuing in the market. So and there's much greater focus nearer to the market on having the right production system. That's another key part of our overall turnaround plan. And if we go to the final element here is looking across all our functions, whether it be finance, whether it be human resources to make sure we have the right organization design to support and enable the changes I mentioned above to drive our strategy across all of our core markets and make sure we continue to focus on productivity and efficiency as a company globally. So we're very excited. We have an internal call on Thursday, we will continue to work with our teams, our leadership teams about the implementation of our overall turnaround plan, and we look forward to sharing more of those results as we see them improve the P&L of our company in the coming quarters. And with that, guys, there's so much to say. That was our input for today, Q1. And as Efrat said, we know that Q1 2023 was very special. In my 30-plus years career in the industry, this was an all-time type of benchmark, which makes, of course, all the comparisons difficult. And at the same time, we're hopeful that you see that through our management interventions and actions that you can see the company turning around from the baseline of 1 year ago. So I'll stop there, everyone with the formal presentation, and we would invite to hear your questions. Thank you.

[Zhi Guo, executive]

[Interpreted] Now this is our Q&A session. I already see questions popping up from our investors. So question number one, for branded formulation in China, we have seen a year-on-year increase for China's branded formulation, I want to know what is the competitive layout compared with active ingredients. Is the competitive layout for formulations better or less competitive.

[Steve Hawkins, executive]

Well, a very important question. And as I mentioned, I've just returned from China, and I've had the opportunity to visit with both our branded teams and our active ingredient teams. Two points I would make. For sure, they're very different markets. And also, it's very different domestically in China, the type of market situation than what we're seeing globally. So for us, on the formulation side, this is really where we're focused on innovation and having the right channel strategy and focused on profitability overall with the team in China. And as you rightly pointed out, we see progress with that. On the active ingredient side, this is more focused on lowering cost of goods and feeding our overseas businesses with lower cost of goods, so we can realize a higher gross margin in their markets because most of our active ingredient is focused on internal manufacturing of products, not for active ingredient only sales like some of our other competitors.

[Zhi Guo, executive]

[Interpreted] For question number two, this is about OpEx in the first quarter of 2024. What are the reasons for the year-on-year decrease in OpEx. The transportation -- and also I see transportation and logistics costs were also decreasing. Also what is your forecast for future exchange rate? Can you give me an analysis of 2 different scenarios? The first scenario is a stronger U.S. dollar? The second scenario is a weaker U.S. dollar.

[Efrat Nagar, executive]

So our operating expenses indeed reduced because of transportation and logistics cost and it's coming together with a reduction in volume. However, it's very important to mention, but this is not the only source of reduction. As you remember, we launched a plan last year of managing our operating expenses. So also in this quarter, we see reduction in other areas like label costs like traveling, like consultancy, all places that we can control with significantly reducing our 2-man and the situation in the market. Regarding dollar impact on our results. So as you probably know, we are operating more than 50 countries all over the world.In all countries, we are working on local currencies. And then we translate in our financial report into dollar. Dollar, this is our reported currency, and then we are [Interpreted] R&D, but dollar, this our baseline currency. So if the dollar is strong versus the local currency, we see lower cost in dollar, lower cost OpEx in dollar. If the dollar is softer is weaker than the local currency, we will see higher cost, higher operational expenses, specifically in this year because -- sorry, specifically in this quarter because the dollar was stronger. We benefited in the operating expenses from this -- from dollar.

[Zhi Guo, executive]

[Interpreted] For question number three, the investor is interested to know the main impact from extreme weather. How is the extreme weather conditions affect our business?

[Steve Hawkins, executive]

Well, the first part about extreme weather is to make sure we have the safety of our people. And I saw the tornado event in Guangzhou in Southern China, which these are very powerful storms and can be quite difficult. So for sure, number one is the safety and extreme weather situations. The second point, maybe it's helpful for our investors is the weather itself more creates different types of pests or weed events. So it's not the weather itself. It's more what it creates potentially for disease or pests in a particular season. And for that reason, generally speaking, the weather impacts more the fungicide and insecticide portfolio, less the herbicide portfolio, which is more stable. But all of those things mean that farmers for sure, we know, are impacted by weather and the growing conditions. And also, they have a certain mindset when the weather is more positive to invest in their crop. So it's quite a complex part of agriculture. But overall, I would say it's highly variable. In other words, sometimes it's positive. If the weather is hot and humid for spraying fruit trees, for example. And if it's cold and wet, that generally has a negative effect on the application overall of products. Very important question in agriculture. Thank you.

[Zhi Guo, executive]

[Interpreted] Question #4. When does ADAMA expect the global agrochemical industry to bottom up and to improve again?

[Steve Hawkins, executive]

Well, for sure, ourselves and all of the industry are -- this is a question we're all trying to look forward and make our best assumption on. As I mentioned, I was in China and things -- it's not obvious things are going to change strongly in the coming months. So the same macro patterns we see. We see above-average farmer profitability. So at the demand side, it really depends area by area on the "wait & see" inventory stocking of the channel. So for sure, we're not seeing the turnaround in the market at this time of the year, and we would expect to see 2024 as a year of transition. So I would say back to a more normal demand pattern. We should look more to a 2025 year.

[Zhi Guo, executive]

[Interpreted] Question #5. How is your current inventory level compared to the regular or the reasonable inventory level of your company? How much is the gap or how much is the difference? What is the difference for the inventory days between the company and other peers? What are the expected changes in the future?

[Efrat Nagar, executive]

Okay. So as I proudly presented our inventory level, we did significantly versus last year, $700 million and also versus the end of 2023. And we are really close to our normal level of -- in terms of inventory they've seen at ADAMA. It's very, very difficult to compare between the [ mine ] and other competitors in terms of inventory days because it all depends on the operational layout of each and every company. However, as explained by Steve, our transformation plan is also focusing on optimization of how we are going to manage our production footprint, our formulations footprint in order to reduce the inventory days, of course, while keep supporting our demand from the end market.

[Zhi Guo, executive]

[Interpreted] How is your collection, especially how is the collection intensity in LatAm? Do you think there is a risk of bad debt?

[Efrat Nagar, executive]

So again, coming back to the cash flow. As I presented, we are managing our collection and our customers in very, very tight management and also resulted in our cash flow performance. Specifically, in South America, we see some challenges in the market mainly because of the weather conditions. But as we are tightly managing our risk with customers, with new sales in collection, we currently do not foresee any major risk around bad debt expenses.

[Zhi Guo, executive]

[Interpreted] Actually, the company has run deficit in first quarter, what will be the focus for the next 3 quarters of the year to turn around?

[Steve Hawkins, executive]

Well, as I shared in the presentation, the turnaround plan, the 5 points where I went into detail, and this plan now is well underway in implementation from the first of this year. And based on a number of the learnings as we focused on turning around the performance already in 2023. So what I shared with you is precisely the focus of our entire management team. We have a very strong program office managing the implementation of this turnaround, and we hope to share you even more positive results as we go quarter-by-quarter with our transformation.

[Zhi Guo, executive]

[Interpreted] Now the -- how do you see the difference between the demand this year in Chinese market and the previous years? And we've seen the dramatic weather or the extreme weather conditions in South China, do you think that will influence the consumption or the depletion of channel inventory as well as the AI price around the globe?

[Steve Hawkins, executive]

Well, of course, it is still very early in the year, in particular for agriculture, and we have the Northern Hemisphere markets that I shared the story with you and the very large Southern Hemisphere markets, which, of course, is more second half. So there's a lot of variability, a lot of different market environments that we have to see in each individual market, how the "wait & see" channel situation evolves, how the weather is for the demand at the grower level. So again, what we see is a positive start for our branded business in China, which is a good turnaround for the team focused on differentiated products. And at this moment, it's too early to understand the full-year performance. So we're focused on supporting our teams to implement our strategy across all our markets for the rest of the year.

[Zhi Guo, executive]

[Interpreted] In terms of formulation, the average price of formulation in Q4 of '23 and Q1 '24, we see a dramatic decline. And right now, we're seeing the price of AIs are stabilizing. So how do you see the price trend for formulation in end markets? When do you think it will also be stabilizing as the AIs?

[Steve Hawkins, executive]

Well, it's an important question, and I would just encourage that the prices of -- that farmers pay in different markets and the cost of the active ingredients are not 100% connected. So somehow, there are 2 different things. So for sure, Efrat shared, and we both shared, the comparison of Q1 last year was at all-time high prices for many active ingredients and also selling prices in market. So it's a very peak comparison, and that's why you see the difference between this year and last year. And as we also said, the wait-and-see distribution continues purchasing -- continues to be difficult on the demand from our customer side. So the macro factor stay in place, good farmer profitability, good demand at farmer level with some weather changes market by market. And when we see the weight and see part of the channel purchasing change, then that will impact overall market pricing, which is very variable market by market. And on the AI prices coming from China, I think many of our investors are very aware that there continues to be high AI stocks in channel in China for export. And so until that demand is consumed in world markets, we would not anticipate major changes. Let's see. The good news is that when we have lower cost of goods from our side and lower AI, if we can at least hold the same selling price as our margins increase, and that's what we're hopeful as we move into the rest of the year.

[Zhi Guo, executive]

[Interpreted] Many commodity products such as Gyphosate, Azoxystrobin, [indiscernible] and Abamectin, we've seen these products price have been stabilizing. So how do you see the -- how do you see the market related to commodity products for Q2 and the entire year in various end markets?

[Steve Hawkins, executive]

Yes. I think I answered a lot of that in the last answer. I mean we see high inventories of active ingredients in China and inventory based on the "wait & see" channel purchasing requirements. So what we need is we need "wait & see" to turn to more purchasing from manufacturers globally and liquidation of the high active ingredient stocks. So we need to see how the rest of the market evolves, and then we'll have our answer.

[Zhi Guo, executive]

[Interpreted] Company's operation cost increase in Q1, well, your R&D expenses are declining. So what are the indicators we should take a look at it, which may suggest further optimization of your business structure and quality?

[Efrat Nagar, executive]

So I can share with you how we are measuring the quality of the business. So quality of the business reflected one in the gross profit percentage, which we achieved in this year, in this quarter better than Q1 2023. We are measuring ourselves on the ratio between EBITDA to sales and also by the cash flow generation and the net income. And it's very important to mention as these are because we are -- our main purpose target is to really improve the quality of the business. So on 2024, the target of our employees that based on them, they really received the compensation is based on quality of business and includes EBITDA to sales ratio, net profit and cash flow generation.

[Zhi Guo, executive]

[Interpreted] What is your outlook for the crop protection market in 2024? And has that improved or worsened compared to your previous outlook? What do we need to see the improvement is there for a possible turnaround?

[Steve Hawkins, executive]

Well, we need to see distribution restock their products and lower their inventory. And that's been the same story for the industry for the past year. And as an industry and as ADAMA, we did see 2024 as a year of transition. Some markets have, we think, reasonable level of inventory. Others still have higher than historical inventory. So it's quite differentiated market to market. So we have still 3 quarters ahead of us. We have a lot of the big markets still to happen. And so what we need to see is distribution starting to repurchase stock. And again, 2024 will be a year of transition. And we would imagine that 2025 will return back to a more normal balance of demand and supply.

[Zhi Guo, executive]

[Interpreted] How are the targeted markets accepting your differentiated portfolio? And what is the growth expectation for differentiated portfolio?

[Steve Hawkins, executive]

Well, a couple of points that are really important for all of our investors. So the profitability of the differentiated products on average is something between 5% and 10% gross margin higher than the average of our gross margin. So that's the benefit financially, and that's one of the 3 KPIs we shared as part of the turnaround program. And as far as the proportion or the percentage of our total portfolio, we are looking to double that over the next 3 years, and that's our mix that we want to improve. And it's really important in those countries that we're focused on. And my view at the moment based on trips in the European markets, in India, as I mentioned, I'll be traveling in Brazil, traveling in China. I see a very, very positive response for our portfolio. The next few years, we have multiple new product launches in key markets. I did mention the European fungicide portfolio launch in the important cereals market. So this is really the right time to be turning around the company as we see a more positive 2025 and future for the market demand. And for us, a more positive overall market demand and having the right products in the right markets is at the heart of our turnaround strategy.

[Zhi Guo, executive]

[Interpreted] These are all the questions we've received today. We have set up an investors e-mail and also hotline. So for our investors, if you've any comments or questions, please do let us know and stay in touch. So last but not least, let's give the floor to Mr. Steve Hawkins for a final summary.

[Steve Hawkins, executive]

Well, a lot of very good questions today, and that's positive because that's our role to not only share the story, but to share the answers to your questions. I want to thank you to all of our investors for your continued patience and supporting our company. We know the agricultural market overall has had a challenging year. And I think the questions are showing that all of us see a positive future and we want to see that future sooner than later. So we are committed to turning around the company. We thank you for your support and ongoing patience. And we thank you for listening today and for your questions and look forward to visiting with you very soon.

[Zhi Guo, executive]

[Interpreted] Thank you. And that's the end for our Q1 roadshow today. Thank you for your interest in ADAMA. Thank you.[Portions of this transcript that are marked [Interpreted] were spoken by an interpreter present on the live call.]