ENEOS Holdings Inc

TSE:5020

Earnings Call Transcript 2023-Q2

[Takeshi Saito, executive]

Hello, everyone. I'm Saito, President of the ENEOS Holdings. I'd like to take this opportunity to thank our shareholders and investors for your continued support and advice for the business activities of the ENEOS Group. I will now explain the financial results for the first half of fiscal year 2022 following the presentation materials.

Please turn to Page 3 for the highlights of financial results for the first half. Inventory valuation increased JPY 109 billion year-on-year to JPY 278.2 billion due to a rise in oil prices and the sharp depreciation of the yen. As a result, both operating income and net income grew year-on-year.

For operating income, excluding inventory valuation, while 3 segments of oil and natural gas E&P, metals and other recorded a year-on-year increase, the energy segment recognized a significant decrease. As a result, consolidated operating income for the group decreased by JPY 52 billion year-on-year.

Operating income of the energy segment decreased significantly by JPY 76.3 billion year-on-year to record a loss of JPY 49 billion despite the high level of fuel oil margins mainly for exports, reflecting soaring Asian market prices. This is mainly due to a rise in fuel cost owing to higher oil prices; deterioration of spread against crude oil and the petrochemicals market, including lower naphtha prices; and higher procurement costs for electricity.

The situation of refinery troubles have been expected to improve from August onward, but the troubles continued, and the profit improvement by the recovery in operations was limited to about JPY 10 billion. I'll explain more later on Page 5.

In the first quarter, the energy segment reported operating income of JPY 39.3 billion, but in the second quarter, it recorded a loss of JPY 88.3 billion. Factors for the change are provided in the lower right of the slide. In addition to the negative impact of approximately JPY 90 billion as the time lag of clean fuel and exports turned from positive to negative, the margins of petrochemicals and export shrunk, even excluding the time lag.

Please turn to Page 4 for the full year forecast. The operating income forecast has been revised upward by JPY 220 billion from the previous forecast in May to JPY 560 billion. This is due to the expected increase in inventory valuation, reflecting the yen depreciation.

Next, I will explain operating income excluding inventory valuation indicated at the lower left. By segment, while we estimate a JPY 20 billion decrease in the energy segment from the previous forecast, oil and natural gas E&P is expected to increase by JPY 20 billion due to a rise in resource prices and the weak yen. Metals and other are estimated to be in line with the previous forecast.

The financial results in the first half were very severe for the energy segment, as explained on Page 3. But in the second half, with the assumption of the recovery of refinery operations by reducing troubles and profit improvement measures described in the lower right, we expect to limit the decrease from the previous forecast to JPY 20 billion in the full year forecast. Specifically, in the electric power business, considering deteriorating earnings due to high trading prices on JEPX, we have started reviewing unprofitable contracts in addition to the evolution of the ceiling price and the fuel cost adjustment system.

Also, to achieve the goals of the second Medium-Term Management Plan, we have incorporated profit improvement measures, including the sale of assets into the plan and decided to maintain JPY 340 billion for operating income, excluding inventory valuation as in the previous forecast. Going forward, we will face various changes in the business environment, but we are determined to continue to focus on and strive for the goals of the Medium-Term Management Plan by taking every possible measure.

Please turn to Page 5. I would like to discuss our effort in reestablishing stable refinery operations. Last fiscal year, we had a major refinery trouble with significant impact on our business, and the implementation of countermeasures were urgent management issue. A company-wide project for travel reduction was launched, identified factors were divided into 4 segments, and we have drawn up countermeasures for each. These measures are implemented sequentially to each refinery from FY '21.

This fiscal year, we had several refinery failures due to special factors. So regrettably, the profit improvement we had expected with the operation recovery was rather limited. In Sendai, we faced difficulty fixing the problem caused by the earthquake in March despite the emergency repair work and found that there were invisible damages to the pipes. Until then, our secondary processing equipment was shut down or low operation level continued. We, the management, take such consequences quite seriously.

On the other hand, with the rollout of trouble reduction countermeasures, troubles originating from operation and construction quality, which excludes special factors, have declined. In addition, we have confirmed that inspection-related troubles are also on the improving trend. Looking at all our facilities and refineries, some may take time for improvement to be realized. However, we will take actions based on the impact on the operations.

As for maintenance related, we have not seen sufficient improvement on the available databases. So we will continue with our ongoing effort, including leveraging on external expertise.

Stable refinery operation is an extremely important management foundation for the next medium-term plan as we look into the realization of energy transition. Therefore, I will take the initiative for the entire company's effort to turn around the refineries in order to restore our earnings power as early as possible.

This concludes my presentation on the results highlights and our initiatives for refinery operations. Next, Mr. Tanaka, Senior Vice President, will present on the financial results and the outlook in detail.

[Tanaka Soichiro, executive]

I am Tanaka. I will explain the details of the financial results for the first half of FY 2022 and the full year forecast.

Please turn to Page 7. First, I will explain indices. The Dubai crude oil, shown in red, started at $102 per barrel this fiscal year, and it rose to $119 in June due to a sense of supply shortage caused by the EU's embargo on Russian crude oil. However, the price has been falling since July due to concerns of a global economic recession triggered by monetary tightening in various countries. The average price for the first half was $102 per barrel, up $33 year-on-year. The current price is at $90 level.

The LME copper price, shown in yellow, started at $4.69 per pound at the beginning of this fiscal year and ended at $3.47 per pound in the end of the first half. The average price for the first half was $3.92 per pound, down $0.41 year-on-year. The price fell sharply to the $3.10 level through July, reflecting the economic slowdown in China and growing concerns of a global recession and has remained around $3.50 since then.

For the exchange rate, shown in green, as you know, the yen depreciated rapidly with a widening difference in interest rates between Japan and the U.S. The average exchange rate for the first half was JPY 134 to the dollar, a depreciation of JPY 24 year-on-year. The yen is currently at around JPY 145 to the dollar.

Please turn to Page 8. First, let me explain the clean fuel margin index on the left. In the second quarter under review, the clean fuel margin declined from the previous quarter due to the negative time lag that occurs during the declining phase of oil prices. The first half average improved by JPY 1 to JPY 2 year-on-year.

Please refer to the paraxylene margin index on the right. The paraxylene margin remained weak due to the start of operations at the new plant in China and the easing of supply shortage associated with lockdown. The margin in the second quarter fell by more than $100 per ton compared to the first quarter.

Pages 10 and 11 show the overview of the first half financial results and operating income by segment. I'll skip the explanation on them as it overlaps with the first part of this presentation by President and the waterfall charts from the next page.

Please turn to Page 12. In the energy segment, operating income, excluding inventory valuation, was a loss of JPY 49 billion, down JPY 76.3 billion year-on-year. I will explain the factors for the decrease by subsegment. From the left, petroleum products were down JPY 47.2 billion year-on-year. There was a positive impact of JPY 6.1 billion in sales volume mainly due to increased sales of clean fuel by decreased impact of COVID-19. On the other hand, margins and expenses deteriorated by JPY 53.3 billion.

While margins for clean fuel and exports improved by about JPY 50 billion year-on-year mainly due to favorable export market conditions, a negative impact of about JPY 60 billion caused by a significant drop in margins for naphtha and others related to the transfer price of raw materials to the petrochemical subsegment. Also, we were unable to fully benefit from the favorable export environment due to an increase in fuel costs associated with higher oil prices; impact of the high procurement costs for items other than crude oil, such as ETBE; and the limited recovery in refinery operations. This resulted in a significant decrease of JPY 53.3 billion in operating income.

Next, petrochemicals recorded a decline of JPY 15.9 billion year-on-year. Despite an improvement by lower transfer prices for raw materials of petrochemicals, the deterioration of market conditions for chemicals such as paraxylene and benzene led to a significant decrease of margins and expenses, resulting in the recognition of a loss in this subsegment.

In electric power, procurement costs increased due to higher JEPX prices, which were below JPY 10 per kilowatt hour in the first half of the previous fiscal year, resulting in operating loss of JPY 18.9 billion. This includes a negative impact of about JPY 8 billion due to the time lag in the fuel cost adjustment system.

In materials, margins for lubricants deteriorated mainly due to the time lag, but there was a profit contribution by the elastomer business, which started as operations of ENEOS Materials on April 1, 2022, resulting in an increase of JPY 5.7 billion year-on-year.

Please turn to Page 13. Operating income in the oil and natural gas E&P segment increased by JPY 21.6 billion year-on-year to JPY 60.4 billion. While the sales volume had a negative impact of JPY 3.3 billion due to decreased sales volume, the impact of crude oil prices improved by JPY 29.7 billion due to a significant increase in oil and gas prices, and exchange, expense and other was positive JPY 10.8 billion, mainly due to the yen depreciation. As a result, even with the negative impact of JPY 15.6 billion by the absence of profit recorded in the previous fiscal year by the sale of the U.K. business, operating income in the oil and natural gas E&P segment increased year-on-year.

Please turn to Page 14. Operating income for metals segment increased by JPY 2.3 billion year-on-year to JPY 81 billion. In functional materials, thin-film materials and other, due to China's zero-COVID policy, sales environment for certain products deteriorated. However, demand increased in high-performance IT areas such as communication infrastructure as well as yen depreciation. The profit increased by JPY 13.2 billion.

In mineral resources, although production volume at Caserones Copper Mine in Chile increased year-on-year basis, profit declined by JPY 17.8 billion, mainly due to a fall in copper prices. In smelting and recycling, better international pricing of sulfuric acid, which is a byproduct, and yen depreciation led to profit increase of JPY 4 billion.

Please turn to Page 15 for our balance sheet and cash flow status. First, on cash flow. Please have a look at dotted area on the right-hand side for figures, excluding lease accounting impact. For the first half operating cash flow, we had JPY 116.6 billion of operating income, excluding inventory valuation, JPY 131.8 billion of depreciation and amortization, but JPY 693.6 billion of cash out in working capital and other due to around JPY 400 billion of working capital increase related to inventory buildup for winter season as well as onetime excess payment of corporate taxes and consumption taxes. As a result, operating cash flow was a cash out of JPY 445.2 billion.

Investing cash flow was negative JPY 57.6 billion as we carried out strategic investments such as the acquisition of elastomer business. Thus, free cash flow was negative JPY 502.8 billion. And net cash flow, which include dividend payment and share repurchases, was negative JPY 657.4 billion.

Next, on balance sheet. Please refer to the chart on the left. As shown in the dotted bubble, the net interest-bearing debt, that is interest-bearing debt minus cash on hand, stood at JPY 2,914.5 billion as of the end of September. This is an increase of JPY 729.5 billion versus last fiscal year-end, reflecting negative cash flow of JPY 657.4 billion and succession of debt obligation from elastomer business of JPY 50.3 billion.

Accordingly, net D/E ratio rose to 0.84x from last fiscal year end of 0.68x. Net D/E ratio, adjusted for hybrid bond issued in June of last year, is 0.76x. Next, let me explain our forecast for the full year.

Please turn to Page 17. For the assumptions for key factors in second half, Dubai crude oil price remains unchanged from the previous forecast at $90. Copper price, given the current market price, goes to $3.40. Exchange rate is revised to JPY 140 to $1 given current yen depreciation.

Based on these factor assumptions, our full year operating income estimate is revised upward by JPY 220 billion from the previous forecast to JPY 560 billion. Operating income, excluding inventory valuation, remained unchanged, as I explained at the beginning. Profit attributable to owners of the parent is revised upward by JPY 160 billion to JPY 330 billion.

Page 18 shows the by segment operating income. I will provide more details from the next slide onward for each segment.

Please turn to Page 19. Energy segment's operating income, excluding inventory valuation, is revised downward by JPY 20 billion to JPY 70 billion. For petroleum products division, while we incorporate negative impact from refinery trouble in first half and deterioration in profit due to fuel cost increase with rising oil prices, we expect JPY 26 billion improvement in second half coming from operating recovery with trouble reductions in refineries, better mix and volume recovery in export, asset sales and other profit enhancement initiatives.

Next, on petrochemicals. We are expecting profit deterioration of JPY 36 billion, incorporating volume decline and margin deterioration due to adverse petrochemical market conditions. For electric power, though the procurement cost is expected to worsen, we plan to improve sales prices so that on full year basis, profit decline is contained just JPY 1 billion from the previous expectation. For materials, mainly due to negative time lag for lubricant business, we revised profit downward by JPY 9 billion from the previous forecast.

Please turn to Page 20. For oil and natural gas E&P segment, operating income is revised upward by JPY 20 billion to JPY 90 billion due mainly to a rise in resource prices and weaker yen.

Please turn to Page 21. The forecast for metals segment's operating income remains unchanged at JPY 130 billion. In functional materials, thin-film materials and other subsegment, while we expect sales decline in some products, profit is expected to improve by JPY 13 billion, owing mainly to weaker yen. In mineral resources, due to the heavy snow in July, Caserones Copper Mine's annual production volume is expected to fall by 22,000 tons to 130,000 tons. Furthermore, we incorporate weaker copper prices. As such, the operating income is revised down by JPY 46 billion. Nonallocated corporate expenses and others is revised up by JPY 34 billion as we reviewed certain expenses.

This is the end of discussion on our full year forecast. Page 23 onward is for your reference as we provide our assumptions, sensitivity analysis and major topics for the first half. Please have a look later.

That is all from me. Thank you very much for your attention.