Stelco Holdings Inc

TSX:STLC

Earnings Call Transcript 2022-Q1

[Operator]

Good morning, and thank you for attending today's Stelco Holdings Inc. First Quarter 2022 Earnings Call. My name is Sam, and I'll be your moderator for today's call. [Operator Instructions]

At this time, I'll now like to turn the call over to our host Trevor Harris of Stelco. Trevor?

[Trevor Harris, executive]

Thanks Sam. Good morning, everyone, and welcome to Stelco's quarterly earnings conference call. Speaking on the call today to discuss the results for the first quarter of 2022 will be Alan Kestenbaum, our Executive Chairman and Chief Executive Officer; and Paul Scherzer, our Chief Financial Officer.

Yesterday, after the market closed, we issued a press release overviewing Stelco's financial results for the first quarter of 2022. This press release, along with the company's financial statements and management’s discussion and analysis, have been posted on SEDAR and on our Investor Relations website at investors.stelco.com. We have provided a link to the presentation referenced on today's call on our website as well. I'd like to inform everyone that comments made on today's call may contain forward-looking statements, which involve assumptions, which have inherent risks and uncertainties. Actual results may differ materially from statements made today so do not place undue reliance upon them. Stelco's management disclaims any obligation to update forward looking statements except as required by law.

With that in mind, I would ask everyone on today's call to read the legal disclaimers on Page 2 of the accompanying earnings presentation and also to refer to the risks and assumptions outlined in Stelco's public disclosures, in particular, the first quarter 2022 Management’s Discussion and Analysis sections relating to forward-looking information and risks and uncertainties as well as our filings with securities commissions in Canada. The appendix of our presentation and the non IFRS performance measures and review of non-IFRS measures of our MD&A provide definitions and reconciliations of the non-IFRS measures that we use today. Please note that all dollar figures referred to on today's call will be in Canadian dollars unless otherwise noted. Following today's prepared remarks, Alan and Paul will be taking questions. [Operator Instructions]

With that, I'd now likes turn the call over to Alan. Alan?

[Alan Kestenbaum, executive]

Thank you, Trevor, and good morning, everyone. Following up on the most successful financial year in the history of our company was always going to be a challenge. But once again, our team delivered outstanding results for our shareholders. The first quarter of 2022 was our most profitable opening quarter of all time. Our business continues to lead our industry peers with an adjusted EBITDA margin of 44% while the $402 million of adjusted EBITDA we generated was down 40% from the previous quarter, it represents 117% improvement over the first quarter of 2021. The total EBITDA generated by our business over the last 12 months now stands at over $2.2 billion. In addition to our industry leading margin, we were able to generate $906 million in revenue and convert that into $262 million in net income for the quarter, a 120% improvement over the first quarter of 2021. Although down from over $500 million in Q4 of last year, our adjusted net income over the last 12 months stands at just over $1.8 billion.

Our exceptional financial performance has afforded us the opportunity to continue to reward our valued shareholders. During the quarter, we surpassed the $1 billion mark with respect to total capital return to our shareholders since our IPO in 2017, more than 4 times what was raised in our IPO. Relative to our market cap, we continue to be the leader amongst publicly traded steel makers and downstream steel companies across North America. The alignment of our management team with our shareholder base continues to be an unprecedented strength for our company and we are exceptionally proud to reach this milestone. Despite the fact that the first quarter began with some uncertainty and downward pressure on steel prices and so [ upped ] the demand in 2021, since the end of the first quarter, we have seen an improvement in end market demand, as well as restocking at the distribution level, which taken together with a significant rise in scrap prices affecting the cost structure of many of our competitors have improved prices and our anticipated shipments for Q2.

We will also mark in Q2 2 more milestones with respect to our strategic capital plan that will provide us with further cost advantages over our competitors. Last month, we completed the extensive rehabilitation and upgrade of the Lake Erie Works coke battery, and resumed the production of coke at the facility. The extensive 12-month project included the installation of best in class process and production and control systems and will contribute to not only more efficient production of coke to support our steel making operations, but also improve Stelco's carbon footprint. Later this month, we expect to begin commissioning of our 65 megawatt electricity co-generation facilities. Talk about good timing. Together, these projects will further improve our cost structure, reduce our emissions profile and improve the overall efficiency of our operations. All of this has been accomplished without ever wavering from our commitment to maintaining a strong and flexible balance sheet at our low to no debt philosophy and tactically flexible approach to our business.

The returns to our shareholders and our strategic capital plan had been funded with cash generated from operations and without acquiring any long term debt or issuing any stock. In fact, we ended the first quarter with almost $800 million in cash, and the balance continues to grow. As the rest of 2022 unfolds and markets continue to evolve, one thing remains certain, Stelco will continue to be flexible and adapt to the changing needs and dynamics of the market. We will hold true to the core principles that have guarded our success. We'll keep our balance sheet strong, pursue opportunities to improve our industry leading [ course ] position and deploy our capital to the benefit of our investors. In the 5 years our team has managed this business, we have delivered strong results at every point of the market cycle and made the necessary investments to ensure the long term stability of our operations. That is a track record that I am proud of. And one that I and our entire management team are focused on continuing.

With that, I will turn to Paul and ask that he provides some additional comments regarding our financial performance.

[Paul Scherzer, executive]

Thanks, Alan, and good morning, everyone. As Alan noted in the early part of the first quarter, we saw deterioration in both pricing and volume compared to the fourth quarter of 2021, but we did experience some recovery commencing in the last month of the period. As a result, we ended the first quarter with $796 million in cash, even after making a substantial tax statement for 2021 and returning $215 million of capital to our shareholders this quarter through purchasing and canceling $5.1 million shares for an aggregate purchase price of $193 million via a substantial issuer bid or SIB and ongoing normal course issuer bid, or NCIB as well as our quarterly dividend, our ability to end the period with a healthy balance of cash after completing these transactions speaks to the robustness of our company and our commitment to maintaining a strong balance sheet.

As a result of our continued success, we'll be building on our industry leading capital returns as our board has approved the continuation of our $0.30 per share dividend this quarter. Delivering the most profitable first quarter in our company's history was a direct result of the commitment of our management team and each of our employees to the fundamentals that have resulted in our company, having the lowest cost structure in the North American steel industry. Our efforts to continuously improve and lower our costs allowed us to overcome sales volumes that were not only quarter over quarter, but from Q1 2021 as well. We are now seeing stronger demand and stabilization of pricing after significant deterioration through the first 2 months of the quarter, which has helped to offset the sizable inflationary pressures that everyone is experiencing.

Including our sizable cash balance, we ended the quarter with over $1 billion in total liquidity, which will afford our business the flexibility to pursue additional cost reduction measures and capital allocation opportunities as they arise and should they be deemed in the best interest of our shareholders. Our ability to capitalize on these opportunities while maintaining our strong balance sheet remains a core principle that guides our business. Thank you for taking the time to join our call.

[Trevor Harris, executive]

Thank you, Alan and Paul. That concludes our prepared remarks for today. Now I would like to turn the call back to the operator for questions and answers. Operator?

[Operator]

We'll now begin the Q&A session. [Operator Instructions] Our first question comes from the line of David Gagliano of BMO. David?

[David Gagliano, analyst]

I just have a couple of quick ones. First of all, on the near term, on the 2Q guide, the 10% increase plus 10% or more increase in volumes quarter over quarter, can you characterize how that's broken down between in your view restocking at the service centers and real end market demand? And then related to that, has there been any change in the pace of the demand in recent weeks? Was that a very much a front end loaded uptick earlier in the second quarter -- in the first quarter, I mean, second quarter, whatever quarter we're in.

[Alan Kestenbaum, executive]

Yes, with respect to the -- respect to the first part of the question in terms of the split between distribution and end user, it really was consistent and across the board, we had seen some people not buy for like 4 months and it actually went back all the way into the end of the last quarter. So across the board, we saw restocking both at the service center level and at the end market.

And I'd say probably more skewed towards the end market guys because those guys are on the front lines of the increased demand and had the greatest need. And in terms of the recent performance, I have seen some publications report a slowdown. We have not seen that. The demand continues to stay strong. The buyers are there, they have needs and business is continuing at a very, very good pace right now.

[David Gagliano, analyst]

Okay. That's helpful. Thank you. And then just following up on Paul's commentary regarding capital allocation opportunities, it looks like there's still going to be some cash left over here after assuming the NCIB is completely done. I was wondering if you'd prioritize and drill down a little bit further on those capital allocation opportunities that you're talking about.

[Alan Kestenbaum, executive]

Yes. I mean, we continue to look both for opportunities to acquire stock share buyback that's probably on the long term, the most significant and most important part of our capital allocation strategy. And we try and be timely with that. We think we've done a really good job over the years in doing that, and we'll continue to do that. So that's priority number one. That's not to say that dividends are not also going to be a priority should we be unsuccessful in doing enough share buybacks to move the needle, certainly improvements and increases in dividends as possible.

[David Gagliano, analyst]

Okay. And any other -- you mean in the past, there was also mention of inorganic growth opportunities, that kind of thing. Is that -- where does that rank on the list?

[Alan Kestenbaum, executive]

Yes, so on the inorganic growth opportunities, this part of our regular business, we're working on the battery recycling opportunity, still looks extremely interesting, a lot of positive developments on that side. On the inorganic side, you know, our stock, we're still trading at a very, very low multiple. When you look at our trailing 12 months and people like to project forward, but just looking at the way we're performing right now when you take our cash into account, we're trading a little bit over one ton. So very, very difficult on the inorganic side of things to actually do anything of significance.

On the organic side, our investments are relatively small, not needle moving. So we'll continue that on that path. The inorganic side today -- I mean, we can't -- would be diluted for us to go buy something that has higher costs when you're the low cost producer, you don't want to buy things at higher costs. Well, that kind of makes that difficult. And then of course the multiple makes it very, very difficult for us.

So I think for us, we're going to continue to focus on what we're doing, making money, generating a lot of cash and continue to shrink share count opportunistically as best as we can. And I think that's what investors like myself wanted to see, which is improve share price because I think one of the things that we really need to look at is why the stock trades at the multiples that it does, and as long as it does, we're going to take advantage of that and use that as an opportunity to shrink the share count as we did this quarter.

[David Gagliano, analyst]

Great. That's helpful. Very last question for me. Just remind us again, I know you've given this number in the past. I just don't remember what it was. What's the expected cost save once the Cogen facility is up and running?

[Alan Kestenbaum, executive]

You know, the number we put out before was 18 million. It's going to be more based on recent developments in the energy electricity space and other factors. So we should be well north of $20 million annual save on the electricity. And that gap is going to continue to grow. I mean, I mentioned my remarks, that timing, incredible timing, clearly we didn't anticipate things that are going on in the world impacting energy prices, but this is going to end up being a really phenomenal situation for us where we're essentially locked in on low cost electricity and perpetuity at this point. So it'd be at least 20 and probably more.

[Operator]

Our next question is from Seth Rosenfeld BNP. Seth?

[Seth Rosenfeld, analyst]

If I can ask one please on price realizations, given the recent volatility throughout the course of Q1, both in spot prices and lead times, can you give us a bit more color with what we should expect for realized prices in Q2? What scale of increase would be achievable? Also with that in mind and some certain sales by peers who had come in at very low prices during Q1 during the trough, will that be a drag on your AFPs in the Q2? I'll start there please.

[Alan Kestenbaum, executive]

So basically, I think we're going to expect higher pricing for Q2 on average. There is obviously a drag as you're pointing out, but at the end of Q1, we didn't sell all that much at the low prices. So we had a pretty wide open book as things started to improve. So fortunately for us, despite the drag and despite the number and the typical lead times that you have whatever it was 4, 5 weeks at that time, most of the Q2 is going to be at much better prices than what we're being realized at the end of Q1.

[Seth Rosenfeld, analyst]

Okay. Thank you very much. And when we look at your cost base, thanks for the color on the Cogen facility, but can you give us a bit more of a rundown with regards to inflationary pressure across the business right now? What drivers should we expect Q over Q? And then for the coke battery with that now back up and running, could you again, remind us of the savings we should expect?

[Alan Kestenbaum, executive]

Yes. On the Coke battery, I think we've mentioned before somewhere around $6 to $8 a ton savings and over the course of the operation. So that's on track. I have to say this coke battery was probably the fastest done in record. And when I speak to our chief operating officer, Sujit, who has been in this business for over 30 years, he's really, really proud about the record time that this took place in together with the technology that's in there, which reduces the carbon footprint, incorporates parts of our artificial intelligence program that we have. It's really, really cool. And it was done on budget, took a little longer, but on budget and really delivering the results that we wanted.

So in terms of the cost inflation, so that largely comes from coal and natural gas and electricity. So those are the main ones and alloys. What we're seeing now is the following, natural gas, it seems we have some exposure, electricity, as we just mentioned with the Cogen coming on, we're going to be able to mitigate some of that, a good part of that. And then as we go forward, what we're seeing already is a significant decline in coal prices starting to emerge. We did an amazing job with coal. We bought coal a couple of years ago and enjoyed some pretty good prices. We also needed to buy some coal, which we did, and we had to pay the price as things went up, but we did a really good job. We have logistical advantages. We buy well below the quoted seaborne prices. We're seeing those prices go down pretty hard right now. And we're not ready to come in and buy just yet, but we'll pick off some stray lots as we can. I mean, so we're very -- we're seeing good things there.

On the alloy side. I mean, that thing is -- there has been inflation there. We've not seen yet a break in those prices yet, kind of carries its own dynamic, but we don't use that much alloy in the grand scheme of things. So we certainly have [ seen ] inflation. We're anticipating as we get into the second half of the year with what's going on around the world continue dropping a lot of the prices and a lot of this stuff, and then taking advantage of the Cogen facility.

[Operator]

Our next question comes from the line of Michael Glick of JPMorgan. Michael?

[Michael Glick, analyst]

Yes, I guess, I'll just ask the standard question on pig iron, obviously major topic with the effective end of Black Sea pig iron into North America. Just how do you view the pig iron caster in this environment? And then maybe any view on the iron ore option as well?

[Alan Kestenbaum, executive]

Yes, so pig iron has been really good. There was a period of time that pig iron actually went higher than the steel price. Our highest price that we sold at was over $1,200 per ton of pig iron. And we did a little bit of that in Q2. We got a bunch of that coming in Q -- sorry, a little bit in Q1, we got a bunch of that coming in during Q2. Since then prices have moderated, they're lower, they're below $1,000 right now. I think the world as always happens in commodity industries finds ways to adjust. And we're part of that adjustment.

We are supplying mills and happy to do it. Of course now the flat roll business has gotten better than it was at the end of Q1. And so we're gearing more towards the flat roll, a regular product mix. So we use that as a phenomenal balance. When we built that caster, our view of it was we hope it was the best CapEx project that we never have to use, meaning always a great offset when we have excess material to sell, rather than discounts the material in the market, the better solution is to go and pour it into pig iron and sell that. Well, we certainly didn't anticipate what was going to happen in the world. And instead, we went and started to sell pig iron here when prices started to go up and of course, cheap prices then started to rebound very, very sharply.

And so we're doing as little pig as possible right now, but we will be shipping a record amount of pig iron in Q2. We think it's a great market. We've established new customers, including some of our competitors who are happy to do business with. And it's been great. And so I think that's a nice bright spot and a validation of again, our tactical flexibility model. We're driven by profit. We're driven by cash generation. And when the profits for making pig iron exceed that of making steel, we're not embarrassed to say, well, we're going to be pig iron sellers. And that's what we did. We're selling to all parts of the market, including foundries, steel mills, even traders, they call us with -- to us it's price. And so that's been a really good bright spot for the company, a real validation of the pig iron strategy that we developed and very, very timely. And we'll continue to be a player in that business.

[Michael Glick, analyst]

And then maybe on the growth side, we've seen the Canadian federal government and the provinces step up to fund certain projects namely the DRI, EAF project at Dofasco in Hamilton. I mean, do you see these sorts of opportunities to access federal or provincial funding for some of the call it high risk, high reward, top type opportunities that you have?

[Alan Kestenbaum, executive]

Yes. They've been very vocal about wanting to decarbonized the sector. They've been extremely supportive to the industry. And so the answer is yes.

[Operator]

Our next question is from the line of Alexander Jackson of RBC. Alexander?

[Alexander Jackson, analyst]

I was just curious on your sales breakdown. I noticed sales into the US on a revenue basis was up in Q1 and had been trending up last year. Was wondering if there's anything behind that in terms of different customers that you guys are trying to do business with?

[Alan Kestenbaum, executive]

Well, a couple things. Again, we're always driven by price and profit. So wherever the best prices are, that's where we sell. And by the way, we're looking actually at increasing -- we're developing our business opportunities in Europe right now because we have the dock, the prices are higher there and there are supply issues, there are supply chain issues on the energy front and other opportunities that are there. And so we'll go everywhere with our product. We're very, very good at identifying markets.

So what you're seeing there is just opportunistic pricing. The other thing is we have initiated a plan with our sales force without getting into too much detail. And we're keeping track now on a quarter by quarter basis of new customers. We're always sold out, but for us, having more customers is something that's an advantage to us because it gives us flexibility instead of -- it creates a little bit of tension and of course we have our main customers that are there, month in and month out, have supported us with good times and bad times.

And those are our priorities, those customers, but having more customers is also a good thing for obvious reasons, developing new markets and creating tension on the customer side. And so this one quarter we developed 20 new accounts. We have a big focus now on developing new customers. And so some of what you're seeing is the initiative taken by a director of sales. I always call these one of the most aggressive guys in the industry. And we challenged them with getting -- with trying to expand the customer base and had a lot of success with that. And that's some of what you're seeing.

[Alexander Jackson, analyst]

Got it. That's helpful. And then it was a small number, but I know it is some write downs on construction and progress and some demolition costs. I was just more or less curious what that was related to.

[Paul Scherzer, executive]

Sorry. Do you mind repeating the question?

[Alexander Jackson, analyst]

Yes, no problem, Paul. I just noticed in the quarter you guys had under other costs some write down of construction and progress and some demolition costs. It's a small number, but I was just curious what it was related to.

[Paul Scherzer, executive]

Yes, Alex. As we go through, we're always looking at various projects and some we end up advancing, some we don't end up advancing. So there's a little bit of that mixed in there where we had some spend on a few things we were pursuing. There's also a little bit more mixed in there with -- so just the ongoing work we're doing in terms of site cleanup and whatnot.

[Alexander Jackson, analyst]

Got it. That's helpful.

[Alan Kestenbaum, executive]

And in particular, in terms of the site cleanup, what Paul was referring to is the demolition of the old buildings and it's actually been a windfall for us because the scrap prices have gone up and it's really been a tremendous windfall for us. Those are very steel intensive buildings and this land is becoming beautiful. If you go out there today, you'll still see some of the main buildings, but a lot of the larger ones have gone. And it's just a beautiful piece of land on the waterfront and it's pretty amazing to see.

[Alexander Jackson, analyst]

And maybe on that, I'll just ask one more on the land. There was an article I think, in the Hamilton Spectator about your land and a potential sale that was progressing. I was wondering if there's anything you could comment on that or when we might hear an update on a potential land sale.

[Alan Kestenbaum, executive]

Yes. I mean, these things tend to leak in the press. I mean, we really don't have any comment to make on that right now.

[Operator]

Next question is from Michael Doumet of Scotiabank. Michael?

[Michael Doumet, analyst]

First question is on volumes. You obviously had a big year in 2021 as you capitalized on higher prices. Looks like you're looking for a bounce back in production shipment in Q2. Is that Q2 level a fair go forward production number to think about for the rest of the year or are you thinking of maybe getting closer back to 2021 levels?

[Alan Kestenbaum, executive]

Well, I mean, we're -- I think you should think about this as steel shipment to about 2.8 million tons a year. So you know, I think you should assume that's a number going forward. That's pretty much our steady state number.

[Michael Doumet, analyst]

Got it. Okay. And then just to follow up to all the cove [ oven ] questions, I was just wondering if I remember this correctly, but with the [ rehab ] complete, does that mean you'll get production that you could potentially sell? And if that's the case, just wondering on the quantum.

[Alan Kestenbaum, executive]

Yes, we will have -- we have capacity to sell and that's something that we're looking at. We had stopped that for a while. It's a pretty profitable business right now. And so yes, it's another area for us to gain EBITDA.

[Michael Doumet, analyst]

Alan, can you remind us of a quantum or just how to think about that?

[Alan Kestenbaum, executive]

I mean, it's opportunistic. So I mean, we could sell up to 250,000, 300,000 tons a year. To us, it's an arbitrage. We buy coal. If it's profitable, we buy coal, convert it and sell it, we do it if not we don't and right now, the market is favorable and we have that opportunity.

[Operator]

Thank you, Michael. At this time, I'd like to hand the call back over to Alan for any closing remarks.

[Alan Kestenbaum, executive]

Thank you everyone for joining the call today and looking forward to speaking to you guys next quarter and keeping you updated as things develop. And thank you very much, everyone. Thank you.

[Operator]

That concludes the Stelco Holdings incorporated first quarter 2022 earnings call. Thank you all for your participation. You may now disconnect.