ENEOS Holdings Inc

TSE:5020

Earnings Call Transcript 2024-Q1

[Takeshi Saito, executive]

My name is Saito, Representative Director and President. I'd like to thank all of our shareholders and investors for their continued support and advice. Upon the release of the first quarter financial results, the Board of Directors had a series of discussions to analyze the current situation regarding price-to-book ratio and the measures to be taken.

Let me first share what we have discussed. Although I'm not able to participate in this online briefing, I thought I should explain this myself as the top management of the company. And please forgive me as this will be in the form of a video message.

Please turn to Slide 4. This is an analysis of the current situation. As you are well aware, PB ratio can be broken down into the formula shown at the top of the document. We recognize that our cost of capital, WACC, is about 4%. And we recognize the cost of shareholders' equity to be above 8% on a CAPM basis, as described in the middle as our perceived cost of capital.

However, as shown in the graph, PBR and ROE trend, our return on equity, excluding inventory valuation, has averaged only about 6% over the past 5 years. In other words, the so-called equity spread has remained negative. As domestic demand for petroleum products, one of our core businesses, continues to decline, we have put forth a growth strategy to cover our Petroleum business, primarily in the area of decarbonization.

However, since we have not been able to accurately demonstrate the probability of earnings from these growth businesses and the timeframe for their realization is long, we assume that the expectations for growth from the stock market are also negative.

Under our analysis, we not only examine our historical data, but also the efforts of various companies, including similar overseas companies who improved their PB ratios. In fact, in the past, we generated return on equity over 10% and PBR has exceeded 1x for a certain period.

And based on these examples, we conclude that our PB ratio is well below 1x because the equity spread, which is the numerator, is negative; and the expected growth rate is negative and the denominator is higher than 8%.

Please turn to Page 5. Given the situation, we believe that price-to-book ratio can improve and exceed 1x if first, return on equity is improved and the equity spread becomes positive. Second, efforts to achieve energy transition are steadily accelerated and grow economically and technologically. And if the company continues to produce these results, improves its probability and is trusted as promising in the future.

There are 3 elements necessary for this PB ratio improvement. These are improvement of return on equity, improvement of expected growth rate and control of cost of capital. These elements for PBR improvement are included in each of the measures of the third midterm management plan announced in May of this year.

Above all, I'm very particular about equity spreads. In FY 2023, the first year of the midterm plan, we plan to improve refinery operations and significantly increase ROE from the previous year. The UCL improved in Q1 from the previous year, improving our profit/loss condition as a result of improved troubles. In addition, real margins for clean fuels and margins for chemicals have also improved. And I think we can say that we are off to a good start.

We remain fully committed to achieving the third midterm management plan, and we're convinced that the first step is to show you the results of our efforts. Although JX Metals announced the start of preparations for listing, the impact of the IPO was not factored in at the third midterm management plan.

At the time of the IPO, we'll also explain to you the portfolio we aim to achieve thereafter. In particular, regarding the use of funds, we intend to strike an optimal balance between investment in growth and shareholder returns, which we will consider separately from the shareholder return policy in the third midterm management plan.

With regard to our efforts towards energy transition of our growth businesses, we'll proactively disclose the story of their progress and monetization in order to gain your understanding and in turn, your appreciation. We will continue to disclose our efforts and progress towards achieving a PBR over 1x by discussing them with management and using occasion to announce our financial results.

We'll further enhance our dialogue with the market and proactively utilize the opinions we receive in our business operations.

I would like to thank all of our shareholders and investors for their continued support and advice. And this concludes my explanation.

[Tanaka Soichiro, executive]

My name is Tanaka. I would like to thank all of our shareholders and investors for your continued support and advice regarding the business activities of the ENEOS Group. Allow me to explain our financial results for the first quarter of fiscal year 2023 based on the materials at hand.

Please see Page 7. Here are the financial highlights. Operating income for Q1 of FY 2023 was JPY 94 billion, a decrease of JPY 231.3 billion from the previous year. Of this amount, negative inventory impact due to the falling oil prices accounted for about JPY 240 billion. Excluding inventory valuation, real operating income was JPY 124.9 billion, an increase of JPY 7.7 billion from the previous year, mainly due to a profit increase from the Energy business.

Net income, excluding inventory valuation, was JPY 67.4 billion. The Energy segment saw a deterioration due to the reversal of the significant positive time lag of the previous year, but improved the profit due to better clean fuel margins in real terms, excluding the time lag and better margins for chemicals and other products as well as improved refinery troubles.

The graph on the middle right shows the percentage of UCL and planned outages. The UCL improved from 11% in Q1 of last year to around 6%, thanks to the ongoing troubleshooting measures, which brought an improvement in profit around JPY 13 billion.

The bottom right is the graph of quarterly profit/loss. And profit/loss, excluding the time lag is on an improving trend, in line with the improvement in trouble and real clean fuel margins and chemical margins as explained earlier.

Oil and Natural Gas E&P segment reported a slight decrease of JPY 2 billion, mainly due to lower resource prices. In the Metals segment, despite lower sales of semiconductor materials and ICT materials and a loss of profit from the sales of the Caserones Copper Mine, profits were on par with the previous year due to an accounting valuation gain from special factors related to the sale of the mine. The forecast for the full year remains unchanged since May.

Please turn to Page 9. First, let's look at some of the various parameters. The Dubai crude oil price in Brown started at $84 per barrel at the beginning of the first quarter and ended at $77, averaging $78 for the period, down $30 year-on-year.

The LME copper price shown in yellow started at $4.07 per pound at the beginning of the period and ended at $3.72, averaging $3.85 for the period down $0.47 from the same period last year. Affected by concerns of a global recession and a slow economic recovery in China, the price fell to the $3.60 range in May and has remained around $3.80 per pound since then.

The exchange rate in green depreciated against the yen against the backdrop of widening interest rate differentials between Japan and the U.S. The average exchange rate for the period was JPY 137 year, JPY 7 weaker versus same period last year. The assumptions for the full year forecast in May were $80 for Dubai crude oil price, $3.60 for copper price and JPY 130 foreign exchange rate. All of them are currently trending slightly above these assumptions.

Then turn to Page 10. Clean Fuel Margin indices were generally firm, although there was a slight negative time lag due to the decline in crude oil prices from April to May. The period average declined by about JPY 4 versus the previous year, but this was due to the reversal of the positive time lag in the same period of last year caused by higher crude oil prices.

The Paraxylene Margin Index has generally remained at the same level as the previous year. But the real margin, which takes into account fuel cost, has improved slightly from the previous year due to the tight supply and demand situation in the Asian region, as PX production equipment entered regular maintenance and troubles were observed.

Pages 12 and 13 provide a summary of first quarter results and operating income by segment. Allow me to skip the explanation as they are redundant with the explanation at the beginning and the waterfall chart starting on the next page.

Please turn to Page 14. Excluding inventory valuation, operating income in the Energy business was JPY 50.1 billion, up JPY 10.8 billion from the previous year. By subsegment from the left, Petroleum products increased JPY 4.8 billion year-on-year. The volume impact was negative JPY 0.1 billion versus last year.

Margins and expenses increased by JPY 4.9 billion, including negative JPY 65 billion from the reversal of the last year's positive time lag in clean fuel and exports; JPY 30 billion from the real margin improvement, including chemicals; and JPY 40 billion from other factors such as the crude oil price declines.

The impact of trouble reductions of JPY 13 billion is included in the volume and margin impact. The High Performance Materials recorded a year-on-year decline of JPY 5.1 billion. This was mainly due to the reversal of onetime gain from the elastomer business in the previous year. Last year included a onetime gain of about JPY 7 billion from the amortization of negative goodwill and inventory impact.

Electricity improved by JPY 6.9 billion, mainly due to the fuel cost adjustment. Renewable energy profit increased by JPY 4.2 billion due to the reversal of impairment losses in the previous year and an increase in power plants. As noted in star marks, this year's profit of JPY 1.2 billion includes amortization of intangible assets of negative JPY 2 billion.

Next, please see Page 15. Operating income in Oil and Natural Gas E&P business decreased by JPY 2 billion from the previous year to JPY 25.9 billion. From left to right, the volume impact was negative JPY 3.3 billion due to the impact of scheduled maintenance at the Malaysia project and the impact of the decline of the Vietnam project and the resource price impact was negative JPY 7.6 billion due to the oil and gas price declines. The exchange expenses and other totaled JPY 8.9 billion, which includes the onetime accounting impact of making Japan Drilling Company a subsidiary.

Please see Slide 16. Operating income in the Metals business was JPY 40.1 billion, down JPY 1 billion from the previous year. Sales of semiconductor materials and ICT materials decreased due mainly to inventory adjustments resulting from declining IT demand resulted in a year-on-year decrease in profit. We expect market conditions to recover in the second half and demand will steadily expand over the medium to long term.

In Metals & Recycling, the profit loss by the sales of the Caserones Copper Mine was negative JPY 10.5 point, but the gain was JPY 10.2 billion due to an accounting valuation gain resulting from foreign exchange fluctuations after the decision to sell the mine. This valuation gain will continue to fluctuate in the future depending on exchange rate.

At the end of the quarter, we expect to post a profit of about JPY 10 billion when the liquidation of the affiliated companies is completed, which is already incorporated in the May forecast.

Please turn to Page 17. Let me go over the balance sheet and cash flow. First is the cash flow. See the figures excluding the lease accounting impact circled by the dotted line on the right. Operating cash flow in Q1 totaled JPY 121.1 billion. As operating income, excluding inventory valuation of JPY 124.9 billion and depreciation and amortization of JPY 60.6 billion were offset by Other of negative JPY 64.4 billion due to an increase in working capital from a temporary increase in inventory and corporate taxes paid as described in the comments below right.

The figure, excluding holiday impact were JPY 30.2 billion in real terms. Investing cash flow was a cash outflow of JPY 191.1 billion resulting free cash flow to be an outflow of JPY 70 billion or JPY 160.9 billion, excluding the holiday impact.

Net cash flow, including dividend payments, was a cash outflow of JPY 134 billion. As noted in our comments at the bottom right, the refund from advanced tax payment made in fiscal 2022 is expected to occur in the second quarter.

Next is the balance sheet. Please see the table on the left. Net interest-bearing debt at June end, which is interest-bearing debt minus cash on hand, shown in the upper right dotted balloon, increased by JPY 147.6 billion from the end of last year to JPY 2.977 trillion, reflecting the negative JPY 134 billion in net cash flow mentioned earlier.

As a result, the net debt-to-equity ratio increased to 0.79 from 0.76 from the end of last year. As this includes the mentioned impact of a onetime increase in working capital, the ratio is expected to improve as the tax refund is also expected in Q2. This is the end of the explanation of the first quarter financial results.

From Page 18 onwards, in addition to the assumptions and sensitivities, we have restated each of the measures in our third midterm management plan, which are linked to the initiatives aimed at enhancing stock value explained on Page 5. So please refer to them later.

Thank you very much for your attention.

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