ADAMA Ltd

SZSE:000553

Earnings Call Analysis

Sales Dip Pressures Profit Amid Market Headwinds

In a challenging Q3, sales plummeted by 24% to slightly over $1 billion, with year-to-date figures sliding to $3.5 billion due to lower product demand, high channel inventory, and dropping prices, particularly from China. EBITDA saw an 80% quarter-on-quarter descent to $35 million. Net income declined overall, despite a positive impact from currency exchanges. Initiatives to reduce operating expenses and improve cash flow, culminating in a $63 million positive operating cash flow compared to a $246 million deficit previously, have been enacted. Despite this, free cash flow remains negative at $276 million for the nine months, an improvement over last year's $623 million deficit.

Steep Financial Downturn Amid Market Challenges

Adama Ltd. experienced a significant downturn, as Q3 2023 revealed sales just over $1 billion, marking a 24% year-on-year decrease. Overall, the nine-month cumulative sales stood at $3.5 billion, a 17% decline. Concurrently, EBITDA plunged by 80% for the quarter to $35 million, contributing to the nine-month figure of $312 million. A dramatic reflection of these downward trends is seen in the net income, which was reported at a loss of $112 million for the quarter and $146 million for the nine-month period. The company has been grappling with excess channel inventory and lower product prices as key drivers behind these numbers.

Cost Measures and Inventory Management

Despite sales declines, Adama has been working vigorously to manage the impact. A $92 million reduction in operational expenses (OpEx) was one such measure, although it wasn't sufficient to offset EBITDA losses. Further efforts in inventory management saw a decrease by $300 million, a strategic move to prioritize high-margin inventory and to clear existing high-cost stock to make room for more cost-effective procurement. Notably, this approach has resulted in a positive operating cash flow of $63 million for the nine months of 2023, compared to a negative cash flow in the previous year.

Global Industry Impacts and Company's Adaptive Strategies

Persistent industry overstocking from 2022, heightened by changes in interest rates affecting inventory costs, has broadly impacted sales. However, Adama's agile response, with a robust focus on cash and working capital management, specifically inventory controls, shows signs of positive evolution. Although exact inventory levels with distribution partners are confidential, overall indications suggest improved leverage moving forward. This fiscal prudence is coupled with continued investment in 'must-have projects' to support company growth, adhering to long-term strategic goals and ensuring operational excellence remains a core focus.

Regional Sales and Market Dynamics

Regionally, trends in the Southern Hemisphere resemble those in the Northern Hemisphere, with strong grower demand but significant declines in sales, particularly in critical markets such as Brazil and Latin America. Europe showed more stability, despite a dry end to the summer affecting stocking, and North America saw improvement in the consumer business, despite lower overall sales. Adama anticipates the Brazilian market's outcome to be a significant factor shaping Q4 performance and beyond.

Outlook and Investor Concerns amid Geopolitical Uncertainties

Looking ahead to Q4 and 2024, Adama expects that if the trends in Brazil and Latin America follow suit with the Northern Hemisphere, a gradual improvement will emerge. The future strategy will remain focused on demand creation, liquidation of higher cost inventory, and product innovation. Questions from investors touched on inventory impairments, regional profits, and the impact of the Israeli geopolitical situation, to which management assured operational continuity and attention to ongoing market adjustments.

Concluding Remarks on Prospects and Market Rebalance

As 2023 has presented Adama with unforeseen market turbulences, the company continues to streamline its operations, align strategy for cost-efficient production, and seek a rebalancing of global inventory levels entering into 2024. The comprehensive response to these challenges underscores a resilience that is anticipated to navigate Adama through the rest of the year and into a more promising future.

Earnings Call Transcript 2023-Q3

[Zhi Guo, executive]

Dear investors, good afternoon. I am Guo Zhi, Corporate Secretary of ADAMA LTD. Welcome to this session for the performance overview online roadshow for Q3 and the first 9 months. We are providing simultaneous interpretation of English and Chinese. You can choose the English or Chinese channel according to your needs. And you can see now on the screen, our CEO and President, Mr. Steve Hawkins; and our CFO, Ms. Efrat Nagar; Global Investors Relations Director, Rivka Neufeld; and also me.

So good afternoon again, and all of them will walk you through how the company has performed in Q3 and the first 9 months. You can use the button on the right side of your screen to raise up your questions, and we will answer as much as possible. And as a routine, please you're kindly reminded to read the legal disclaimer in front of -- at the beginning of the slides. So now let's give the floor to our CEO and President, Mr. Steve Hawkins to elaborate how ADAMA has performed in the reporting period. Please, Steve.

[Steve Hawkins, executive]

So good afternoon, everyone, in China. We hope you're safe and well. And we look forward to sharing our Q3 and 9 months results and also taking questions at the end of the period. For Q3 and 9 months, essentially, it's a similar trend to what we've seen so far this year. And the trends we know have been difficult overall.

As we see by the numbers here, our sales for the full quarter are slightly over USD 1 billion to give us a total of USD 3.5 billion for the year-to-date and the 9 months were down 24% year-on-year for the quarter. EBITDA you see for the quarter at USD 35 million and USD 312 million for the 9 months. Again, unfortunately a decline on the quarter quite dramatically at 80% compared to the very, very strong and unprecedented year that we have in 2022. And then at the net reported income line, we are showing a negative USD 112 million on the quarter and a negative USD 146 million for the year-to-date at 9 months. And of course, we will explain the trends behind these.

Next slide. So as far as the continuation of the challenges in the market at the sales level, we have this so-called destocking phenomenon where our distributors have high inventory from the year before. And therefore, this is leading to lower results for companies such as ourselves selling into the market. And then as well, on the sales line, we are seeing continued decreasing prices from the very high prices of last year.

Margin also to remind us, it's declining here. At the same time, we have given instruction to deplete old inventory, and that has negatively impacted our margin at the same time, we believe, is the right direction to our teams going forward, and we are seeing lowering inventory for sure overall for us and in the market. If I come to the net income line, we also have some currency impact here that is positive. It's also our hedging costs have been lowered. But otherwise, we see a decline in our overall net income.

Next slide, please. Now if we come back on this -- on the 9 months channel destocking story, we're seeing the same story with the trends in the markets. Sales declined in 9 months at 17% in U.S. dollars. We see here also the GP similar, of course, to the quarter that I mentioned. And then this trend of overall EBITDA decline as we try to hold costs, deplete our old stock inventory with what we called our fight back plan and managed very strongly our operational costs. So all of these in combination, unfortunately, are not delivering an improvement at the EBITDA level. And now we're moving into the Southern Hemisphere areas, we are seeing similar trends as we are in Q4.

So next slide, if we go to the regional highlights. And as I mentioned, we are moving into the Southern Hemisphere markets, and we are seeing the same trend that we saw in the Northern Hemisphere markets, which we could imagine because it's the same macro trends with high channel stock, still good, strong grower demand in places like Brazil, Argentina and Latin America overall. At the same time, if we look at the overall sales impact, we can see a major decline continuing.

And if we go specifically into the regions, North America Q3 is a relatively small quarter. So we've had the situation there from Q1, although we are seeing improvement in our consumer business. So there's some stabilizing in certain parts of the North America market. The European market has also been more stable for us, although we had a very dry end of year, end of summer, and that has impacted the stocking of the channel for Q3 and Q4. And also in some markets with serial fungicides, we have seen higher stock than expected at the end of the year that will be carried into next year.

And as I mentioned earlier, Brazil is really now the major market. We're just in this market. Soybeans are being planted. So although Q3, we see here the same trends, it's a bit early to tell how the full Latin-American market will result for this year. And then APAC, where we see continued overall positive on the agricultural side in China and some challenges based on very dry monsoon, in particular in India towards the end of the year. So again, we see similar patterns for the full year and the same reasons behind that we've seen so far.

Thank you.

Okay. Please, Efrat?

[Efrat Nagar, executive]

Thank you, Steve. So as presented by Steve, in the third quarter of 2023, we have reached $1 billion sales. It is 24% reduction from what we achieved in Q3 2022. This is because of we reduced our volumes by 12% and prices by 13%. The reduction is mainly as explained by Steve, there is a high channel inventory in the market. The channel destocking in light of the interest rate, which will also receive a new approach in the market of just in-time procurement by the old channel and the lower market prices cost mainly from China. All these reduced the demand for protection products in Q3, which impacted ADAMAS significantly.

In the next slide, we can see the gross profit reached. In this quarter, we have reached $198 million gross profit versus $373 million last year. One of the reasons is, of course, the decline in sales, which impacts you can see here the quantity impact and the prices impact. However, we already see in this quarter also some cost benefit of $16 million. So although we sold this quarter significant portion of expensive inventory, which impacted our gross profit. And we also recorded a provision for inventory impairment in this quarter.

And we see here a positive cost impact of $16 million. This is because the company succeeded in this quarter to see the benefit from the prices in the market by selling products at prices market. We also can see that the impact of the currencies in this quarter is a positive $14 million. This is due to the positive impact of sales from the Brazilian currency and the euro, which both were strong versus the dollar. And for the other hand, the RMB is the Chinese currency and the Israel shekel are both very soft versus the dollar, which means that our production costs, which are mainly by -- in China and in Israel are reduced because of the strong dollar out versus these 2 currencies, which means we in the first quarter for a long time that we enjoyed from better currencies.

If we are looking on the EBITDA, so we can see, of course, the impact that I already explained on the sales and the gross profit. But also, we can see that our OpEx, our operating expenses reduced also in this quarter due to the measure that took by the company once we see that the situation in the market is more challenging. So we decided to took few measurements or 20 initiatives to support our business.

Part of them, and Steve will elaborate more later, is on OpEx management. And we can see here this is reflected -- fully reflected in the EBITDA by $37 million positive impact. So we have reached $35 million EBITDA in this quarter versus $171 million in last quarter. Now you can go to the next slide.

So for the 9 months, we reached $3.5 billion sales for the 5 months of the first 9 months of 2023, 17% from last year, 10% reduction in volume, 5% reduction in prices from the all reason that I already explained when we discussed the Q3 channel -- inventory channel -- destocking inventory expectation for lower cost from China, et cetera.

So looking on the impact on the gross profit for the 9 months, we have reached only 9 months to $815 million gross profit versus $1.2 billion. Last year, again, a huge impact of the decline in sales, the sales of high cost inventory that we procured during 2022 when the demand was much higher and the inventory impairment that we recorded in this quarter -- in the last 2 quarters due to the difference between the cost that we are holding and the prices in the market.

In the EBITDA here, $312 million EBITDA for the 9 months versus $611 million last year. Also here, you can see the significant impact of the initiatives of the measurement that the company took in order to manage the situation, $92 million contribution from OpEx reduction, positive impact on the factors that reduced our EBITDA as the decline in sales and the situation in the market.

Another -- the focus of the initiatives by the company is not only by reduction of OpEx. And if we can go to the next slide, we can see that one of the main focus area of the initiatives that we took is the improvement of our cash flow. Improving our cash flow, mainly by inventory management. You can see here that in these 9 months of 2023, we succeeded to reduce our inventory by $300 million. How did we do it?

Mainly by 2 main initiatives: one, by managing our procurement. We decided to focus on the prioritized procurements in only high-margin inventory. This is one. The second is to try to push as best as we can, the high costly inventory to the market in order to be able to procure more fresh and low-cost inventory to enjoy from the low cost in the market.

You can see in the left side of the slide, the working capital. So suppliers are lower, of course, with alignment to the lower inventory procurement, while also customers are lower. This is also because we're still focusing and doing intensive collection to have more money in our pockets, all reflected in our cash flow in the next slide. As you can see, in the 9 months, we succeeded to generate $63 million positive operating cash flow. This is versus minus $246 million.

So although the situation in the market is challenging, we succeeded to provide to generate cash in these 9 months and also in this quarter, $82 million. Again, this is a focus area of the company, focusing on working capital management, mainly inventory to support cash flow. But not only that, also our free cash flow in the 9 months is $276 million negative, but this is versus minus $623 million in the last 9 months. Also for this quarter, minus $22 million versus minus $154 million last quarter.

This improvement in our free cash flow is also because of our working capital management, but also because we took also initiatives around CapEx investment, and we prioritize only the must-have projects in order from one hand to support the company growth, but for the other hand, to support our cash flow generation.

Thank you. Steve, to you.

[Steve Hawkins, executive]

Thank you, Efrat. And if we come back to the themes that we've spoken about and Efrat gave us, of course, the details, just to remind us to connect this to the overall crop protection market globally and the trends that we're seeing. The first one I'll point out is the bottom right-hand is the farmer at the profitability level with commodity prices remain strong, and this is the demand we're seeing at the grower level for the use of our products in all markets and adopting our new technology.

So the farmer level demand and consumption is strong. At the same time, on the top left-hand side is the industry overstocking '22. So this is the heart of the challenge for the industry and for our performance this year, is too much stock. And even with normal grower or above-normal grower demand, it's not depleting the stock at the very high stock levels that we see.

And on the top right-hand side then, another factor that we are obviously thinking about as we look forward is with the change in interest rates and the cost of inventory, not only for ourselves but for our channel partners around the world. This is somehow slowing purchases from manufacturers as well. So those are the 3 main industry impacts that we're seeing very uniquely here in 2023.

We go to the next slide. And you heard much of this from Efrat. Our response, we believe, since Q2 has been very strong. We very quickly reacted after our Q1 challenges that we saw, and we're focusing on cash, as you heard from Efrat, and we're seeing the benefits and the impact of those policy and procedure changes, in particular, around procurement, which you heard from Efrat. Also, how we're managing production in our plants through better forecasting as well. And we are having an impact on the depletion of our high-cost inventory, something around $300 million.

So we are making improvements. And as we get in now to the big market in Brazil, we are expecting that we will continue that trend strongly in Q4. If we move on to the middle part about our midterm objectives, of course, we will continue to focus on farmer demand creation. We will continue to focus with the lower costs and active ingredient costs in China that will lower our cost of goods overall going forward. And as Efrat mentioned, we're starting to see that now somehow in our portfolio, but the focus remains to liquidate the higher cost inventory.

And for sure, the longer-term strategy and ambition is not changing as we continue to be a partner of choice for customers. And finally, again, to reemphasize our value proposition in the market, we continue to perform well versus competition in markets. So our products continue to be seen as a value for customers. Our core Leap strategy, the second point here continues on track, and we're very pleased with the progress of that.

Formulation mastery as we see differentiation of our portfolio with customers continues to be on track. We're very excited about our portfolio, very excited about our pipeline into the future. And also next year, in particular, we have multiple product launches in key markets. And then for sure, operational excellence continues to be a key theme. And in particular, not only has active ingredients declined, but our processes, our productivity and our overall efficiency remains a key focus.

With that, we want to thank you for your patience. We understand it's a difficult year. We want to reassure you that we are very focused. The team is very focused overall around the world on delivering the very best business result that we see in this challenging market environment. And we are still early in Q4 here, and we have one of the biggest markets, Brazil ahead of us. So we're counting on a good performance there that will offset the performance year-to-date and improve the situation we're in at the moment. Thank you.

[Zhi Guo, executive]

Thank you, Steve. And next comes our Q&A session. [Operator Instructions] And we have already received some questions from our investors. So for question number one, ADAMA has made a total of over RMB 200 million in inventory impairment in the first 3 quarters. So what is the current situation of high-cost inventory depletion in ADAMA and what will be the annual and subsequent inventory impairment losses?

[Efrat Nagar, executive]

Thank you for the question. So indeed, ADAMA reported in this year higher provision for impairments on inventory value than we are used to, and this is, of course, because our inventory situation in 2023 has resolved from the 2022, a high demand in the market and -- every quarter, basically, we are checking. This is part of our policy to check our inventory cost versus the prices in the market. And if needed, we are recording a provision and this is what we did in 2023, and we will keep doing for next quarter.

However, as I mentioned, when I presented the slide, we are focusing on inventory management, which means that we are pushing. From one hand, we are pushing the countries. We are pushing our business units to sell as much as they can, the high cost inventory in order for us to see the cash in the bank and secondly, to avoid this kind of provision, this is one. And secondly, our new inventory is procured only if it's expected to generate higher profit, which means this is to protect, okay, any additional reduction of cost in the market. So with these 2 steps, we believe that inventory is managed and as I have presented, we already see significant reduction in our inventory in the first 9 months of 2023 of $300 million. And this is although the demand in the market is lower than expected.

[Zhi Guo, executive]

Thank you. For question #2, what are the main reasons for the underperformance sales in Latin America in quarter 3?

[Steve Hawkins, executive]

So for Latin America, including Brazil, we saw the same trends we saw in the Northern Hemisphere, where there's high channel stock, delayed grower demand and consumption at the same time is very strong at the grower level. So it's the very same trends we saw in the north, good, strong grower demand, high channel stock that's being depleted and a very slow reordering, restocking from the channel. It's amazing in some ways this consistent theme across all the markets in the globe after the COVID oversupply period of 2022.

[Zhi Guo, executive]

For question #3, what is your expectation for CP products demand next year?

[Steve Hawkins, executive]

Well, as we've been saying, the grower level demand is consistent and positive. So we continue to see grower level demand and consumption of Crop Protection products increase, so it's still an increasing market and value and volume next year. And depending on how the situation unfolds in Brazil and LatAm in Q4, we would expect throughout next year some improvement in the overall demand for manufacturers and ourselves, obviously, to sell to the channel. So not normal historical levels. But for sure, an improvement on the sell-in to the channel somewhat dependent on how things end in Brazil.

[Zhi Guo, executive]

Question #3. This is about the conflicts between Israel and Palestine, and the conflict has been escalating. So how are things going for ADAMA people in the Israeli headquarters and how is the local business running?

[Steve Hawkins, executive]

Well, thank you for this question. Of course, we're thinking very much about our team in Israel, and we have our colleagues on the call. Efrat here is in Israel. We have almost 1,500 employees -- 1,500 employees in Israel. So we are taking very close care. At the moment, fortunately, we have no employees directly impacted as far as themselves. So everyone is safe at the moment.

We run a daily emergency response plan that I lead with the management team to check on our employees, our manufacturing sites, our overall operations, focused on not only the health and safety of our teams, but also on business continuity or imports and exports. So overall, we have seen essentially no major business discontinuities or disruptions at this point, and that's what we're focused on maintaining.

[Zhi Guo, executive]

Question #5. Could you please brief us on the 3 production sites in China about their operation status, respectively, and also their profitability for the first 9 months as well as the sales update for ADAMA in China?

[Steve Hawkins, executive]

So we're pleased to say that we are -- of course, as we see the higher demand and move into supply for next year, we are seeing reduced idle capacity and the plant production improving. Jingzhou is our strongest, more than 90% capacity at the moment. So it's really product dependent. But as far as our 3 sites, I mean, just to remind us, they are part of an integrated global supply chain. So we do not look at the individual sites from a separate operations perspective. They are integrated to our overall cost of goods.

So of course, we know the situation overall for the company. We know our demand situation. So we are also having an underperformance in the full production capacity and the sales of those individual plants. I think that was the question. I'll stop there.

[Zhi Guo, executive]

Question #6. For quarter 3, we kept seeing losses. And so from which region did the losses mainly come from and which regions are relatively better in terms of profits in Q3?

[Efrat Nagar, executive]

So ADAMA business is more about seasonality. And in H2, our main business is coming from Latin America, mainly in Brazil. Situation today in the market -- in the first 9 months of the year, the market in Brazil contracted by 33%, okay? And it, of course, impacted also ADAMA Brazil. Although our business reduced lower than market trend, still we see a very significant impact in terms of quantity and prices from the situation in Brazil in Q3, and this is one of the main reasons to our results in this quarter.

[Zhi Guo, executive]

Question #7. In both Southern and Northern Hemisphere, we would like to know your inventory volume. The total inventory volume of ADAMA?

[Steve Hawkins, executive]

So inventory in the channel varies highly dependent on the market itself, how many channel players there are, how many farmers there are. So each market is quite different as far as the normal amount of inventory that the channel partner would hold. That said, the average would be some -- the normal average would be somewhere between 20% and 40% inventory. And the trend we've seen globally this year is between 50% and 100% more than that average. So that gives you some sense of it.

As far as the precise amount of inventory that our customers hold, that's not information that we have in detail. We do have some informal information with some key customers. But generally, once we sell the product to our customers, they own the stock, and we do not have that information from them.

[Zhi Guo, executive]

Question #8. What do you think is the level of formulation price? How do you foresee the price of both AI and formulation in 2024?

[Steve Hawkins, executive]

Well, this is an important question, of course, and we believe we've seen the active ingredient prices more or less stabilized in China. So that will translate to some stabilization globally. So as compared to this year, we expect stable to improving prices.

[Zhi Guo, executive]

Question #9. What percentage of capacity of the 3 production sites located in Israel account for the total capacity of ADAMA for all the facilities of yours?

[Steve Hawkins, executive]

Yes. So just to make a correction, we have 2 manufacturing sites in Israel, not 3. And for our total global capacity, because we have active ingredient and formulation in Israel. So it's -- there's different parts here. But I would -- I think the way to answer the question is approximately a quarter, 25% to 30% of our total production for the globe is coming from Israel.

[Zhi Guo, executive]

Question #10. The price-to-book ratio of your B share is 0.23%. It is probably the top, the champion among all the 4,000 listed companies in both A and B share market. Have you considered repurchase to change the performance of your shares?

[Steve Hawkins, executive]

Not at this time, we're focused on improving the business. The business performance, in particular, in '24 based on the situation in '23, although we will continuously assess these ideas into the future. But at the moment, we have no plans.

[Zhi Guo, executive]

Question #11. I would like to know your expectation about the industry strength in the coming year? Do you think it will go up or go down? How do you foresee the total situation?

[Steve Hawkins, executive]

Well, again, we've said throughout our presentation that at the farmer level, the demand remains strong. So the consumption and the demand for products from the industry and technology and innovation like formulation mastery continues. And as we've said, the overall inventory at the channel level is for sure declining, and we need to see what happens in Q4, in particular in Latin America and Brazil. So based on a normal weather year, which also impacts our business, of course, and we've had some of those challenges, we would expect a stable to slightly improving overall market for next year.

[Zhi Guo, executive]

Question #12. The investor wants to know your expectation about the global inventory status for 2021. Do you think the destocking process already -- has already finished in some geographies? How do you expect it will influence the global demand? When do you expect this total destocking will complete around the world?

[Steve Hawkins, executive]

Yes, very important question and a very complex question, of course, with the many different markets. So as I just mentioned, we have a huge market in Brazil and Latin America that we still need to see how that how that finishes. But that market, along with the northern hemisphere markets at the moment, looks like it will finish with higher-than-average historical inventories.

So that means going into 2024, the channel globally will have higher-than-average stocks, and that will continue to impact the overall industry in 2024. So with a normal to positive demand at the farmer level, again, bringing down that stock with a slower sell-in from manufacturers, my overall expectation is the market will rebalance itself in 2024. And as we move to the end of next year, end of 2024, we will start to see the more new normal market type of situation.

[Zhi Guo, executive]

Okay. We've received another question from a certain investor. Okay. The question is not very clear, clearly written -- expressed. So we will just skip it. And I think so much for today's Q&A. That will complete the entire Q&A session.

Thanks our senior managers and executives. And you know that ADAMA has a hotline to receive your comments and questions. So you are mostly encouraged to use these tools to approach us. And now let's give the floor to Steve again to give us the concluding remarks -- closing remarks.

[Steve Hawkins, executive]

Thank you. Well, there was many very good questions today. We understand the Q3 results overall was continuing the trend that we've seen in the rest of this year. We are looking forward to Q4, which we have a very strong business in Latin America and Brazil, and those businesses now are really just beginning with farmers planting. And we thank you for your patience and listening to our story and your support of the company in this challenging time.

[Statements in English on this transcript were spoken by an interpreter present on the live call.]