Evonik Industries AG

XETRA:EVK

Earnings Call Transcript 2017-Q4

[Operator]

Good day, and welcome to Evonik's Full Year Results Conference Call.Tim Lange will open the call. Please go ahead.

[Tim Lange, Head of Investor Relations]

Good afternoon, ladies and gentlemen, and welcome to our Q4 Earnings Conference Call. My name is Tim Lange, Head of Investor Relations. And with me today are Christian Kullmann, CEO; and Ute Wolf, CFO of Evonik.With that, let me hand over directly to Christian for the short presentation and then followed by the usual Q&A session.

[Christian Kullmann, CEO & Chairman of the Executive Board]

Thank you, Tim. And also very warm welcome from me. Thanks for taking the time to be with us today.Today, we will take a brief look back at the successful year 2017 and more importantly look ahead to our strategic agenda for 2018. In this year, we will continue to drive change, with strategy execution and earnings growth on top of our priority list.Building a best-in-class specialty chemicals company, that is our vision for Evonik. We started our transition process last year and have made progress since then. We told you in June that, going forward, our portfolio will have more growth and less mature businesses. That means, in other words, we are actively driving portfolio management on all levels, major portfolio steps, bolt-on M&A as well as optimizations at the business level. On all of these levels, we have already made good progress, especially in growing our businesses with targeted acquisitions and promising innovations. Now we are taking the next major portfolio step with the exit from our methacrylates business that we announced this morning. We have stressed regularly that active portfolio management does not only consist of growth and acquisitions.Divestments are also an important lever to achieve our strategic goals. Now we are starting this process with our methacrylate business. To make it crystal clear: That business is in a good shape with good and strong market position, well-known brands and highly qualified employees. We've done our homework and significantly improved the efficiency and business setup over the last years, but as part of our new strategy, we will focus resources on our 4 growth engines. The methacrylates business as part of the Performance Materials segment has classified as mature. We at Evonik have made the decision not to invest further into this business, so now is the right time to find a strong partner or owner to develop and strengthen the methacrylates business going forward.This is clearly a majority portfolio step for us -- this is clearly a major, sorry, portfolio step for us, but diligent portfolio optimization starts even deeper on business line level. As already discussed last August, we started a strategic review process in our Animal Nutrition business to drive growth and efficiency. In Animal Nutrition, without a doubt, we are in a leading position in terms of customer access, cost base and innovation power. Now we are building upon the strengths to further extend our leadership. We are continuously broadening our portfolio for sustainable nutrition concepts with products like probiotics, ThreAMINO or omega-3 fatty acids. Additionally, we are addressing the challenges in our bio amino acid business and transforming our business model from own production more towards contract manufacturing. This asset-light approach will clearly improve our cost position. In January, the first contract was signed with the Chinese [indiscernible] manufacturer Fufeng for threonine, one of our bio amino acids. Furthermore, we optimize manufacturing, marketing and supply chain for methionine. Headcount will be reduced by 150 in these functions. These strategic initiatives will drive growth and reduce costs. We are targeting EUR 50 million of cost savings in Animal Nutrition by 2020. First savings of around EUR 10 million will become effective already in this year.Next topic, our efficiency program in the SG&A area. Of the EUR 200 million today total savings, EUR 50 million for 2018 are already fixed and locked in. We have implemented a hiring freeze with immediate effect. We have broken down the EUR 50 million in the individual budgets on all levels and have included these savings targets into the incentive schemes of all of our executives. For the remaining EUR 150 million, we will take the time to deeply analyze our complete process change from start to end from the corporate center through our service segment, to the operating businesses. We will look at where can we eliminate redundancies, accelerate decision making and become leaner. We are in the middle of this analysis and will have finished it by the end of, latest, June. With latest in June, we will present the results and especially more details in terms of headcount reduction and onetime costs.With this, ladies and gentlemen, let me hand over to Ute for the financials of the last year and the outlook for 2018.

[Ute Wolf, CFO & Member of Executive Board]

Thank you, Christian. And also a warm welcome from my side.Ladies and gentlemen, 2017 was a successful year for Evonik. With EUR 2.36 billion of EBITDA, we delivered on our guidance and achieved and results in the upper half of the given range. More important than the already outstanding 9% year-on-year increase is, however, our improved earnings quality. Driven by our recent acquisitions as well as the increase in contributions from our innovative growth fields, we accomplished a decrease in dependency on individual products. This is well reflected in the broad-based earnings growth across our entire portfolio. In 2017, 17 out of 22 business lines generated higher earnings year-on-year. Let me provide you with some more details on the performance of our operating segments in the fourth quarter.Let's start with the segment which represents 50% of our earnings, Resource Efficiency, on Slide 10. For the third consecutive year, this segment delivered higher earnings at a sustainable and highly attractive margin level. The strongest earnings drivers in 2017 were silica and high-performance polymers. In HPP, our polyamide 12 business saw an impressive double-digit volume growth rate. Capacities are running at high utilization rates, meeting ongoing strong customer demand. Our strong focus on innovative applications and our system solution knowhow are the key drivers for Resource Efficiency. We are convinced that markets such as lightweight construction or 3D printing will achieve high growth rates in the upcoming years.Turning to Slide 11. Nutrition & Care had some onetime effects in Q4 mainly attributable to inventory revaluations and to higher maintenance activities. Apart from that, the year 2017 was driven by the success of our growth engine Health & Care with businesses such as Personal Care and Health Care. Both delivered double-digit earnings growth in 2017 and are set for further growth in 2018. In Health Care, our drug delivery businesses rank as best-in-class in the pharmaceutical industry, and they are growing clearly faster than the market. In Personal Care, earnings are supported by our acquisition of Dr. Straetmans, an expert for sustainable preservatives. The business is already well integrated, with earnings exceeding our expectations.Moving on to the next slide, let me conclude the segments with Performance Materials. This segment saw a continued strong performance particularly driven by an ongoing positive market environment for methacrylates. The tight MMA supply and the unchanged strong demand from automotive and optical industries resulted in a double-digit price increase for MMA in Q4. In addition, further price increases are announced for Q1 of this year. To conclude: We expect a good start of the segment into 2018 with at least stable Q1 earnings on a year-on-year comparison.The overall solid and positive trends in all 3 segments give us full confidence for a successful year 2018. The strategic focus on our 4 growth engines Health & Care, Smart Materials, Specialty Additives and Animal Nutrition provides us with a broader earnings base and will improve the overall quality of our earnings. For 2018, we target an adjusted EBITDA between EUR 2.4 billion and EUR 2.6 billion. The promising start into the year fully supports this guidance. The development in our businesses is and remains healthy, so for Q1 we are confident to deliver an adjusted EBITDA of more than EUR 650 million, clearly above prior year level. And in 2018, we will also make progress in terms of CapEx and free cash flow. CapEx will be around EUR 1 billion, and that's lower than in 2017. This is despite the fact that we will spend around EUR 300 million on our new methionine plant in Singapore. This is twice as much as in last year.Free cash flow generation remains a top priority for our management. We are fully committed to increase our free cash flow in 2018 and beyond.Ladies and gentlemen, let me summarize our presentation and our agenda for 2018 on Slide 16. Strategy execution and earnings growth are the top of our priority list, and you will see good progress in the months ahead.That closes the presentation. Thank you for your attention, so far, and we are now happy to discuss your questions.

[Operator]

[Operator Instructions] We will take our first question from Michael Schäfer from Commerzbank.

[Michael Schäfer, Analyst]

First one is coming back to your free cash flow guidance for 2018. Basically given your EBITDA guidance you've provided and a flat or even slightly declining CapEx, I wonder where this only slight increase of operating free cash flow you are targeting comes from or whether this -- should we take it as a rather conservative statement from you guys? This will be my first question. And the second one is on your intended disposal of the MMA business. Any kind of indication what you plan with -- or with the proceeds from this disposal?

[Ute Wolf, CFO & Member of Executive Board]

Yes, Michael, thank you for the questions. On free cash flow, this is a relative guidance versus prior year. The EBITDA guidance is a range. And of course, with this relative guidance we have to make sure that this is true for the full range, means the lower end of it and of course also the upper end of it. Maybe some more color what drives the cash flow in this year: You have supporting factors like EBITDA growth, cost savings, lower integration costs, CapEx discipline and our still strict net working capital management. So we have clear commitment and a high priority to grow the free cash flow. On the other side, we've had some tax repayments last year, so tax payments might be a little bit higher. So these are the pros and cons. With slightly higher, that normally means at least 10% higher. And please keep in mind that we give an indication that holds true for the full range of the EBITDA, so maybe that gives you some idea how the range could be. Then proceeds for MMA, it's very early. So maybe we still have to start the process and then we can talk in more detail on the proceeds, but very generally the potential proceeds give us the flexibility to improve our earnings quality and future cash generation in the future. We will further upgrade our portfolio towards a more balanced and more specialty one. This decision of today is a logical consequence of our strategy to develop our portfolio towards a more highly specialized chemicals portfolio. We will strengthen our 4 growth engines via targeted investments, innovation and potentially bolt-on M&A. We will do this in a disciplined manner and without any rush. Of course, we also will take a look at our balance sheet, keep leverage and capital structure here inside so that this all fits together, but again, let's do it step by step and first sell the business and then talk in detail on the proceeds.

[Operator]

We will take our next question from Gunther Zechmann from Bernstein.

[Gunther Zechmann, Research Analyst]

Two questions, please, from my side. First one, on the earnings guidance range of EUR 2.4 billion to EUR 2.6 billion, can you just talk us through what needs to happen to get to the higher and to the lower end of this range and what your assumptions are there? And secondly, Ute, you mentioned the promising start to the year. Can you just give some more color around that, what areas, what markets, maybe what geographies are driving this?

[Ute Wolf, CFO & Member of Executive Board]

Yes, Gunther. Thank you very much for the questions. I think, on Q1, we described the main trends in our speech, so I think there is nothing particular that we go with segment by segment. In Nutrition & Care we have a lot of very good, growing businesses all the time. And we see methionine prices now stabilized, so here we see some volume growth in Q1 with quarter-on-quarter then stable prices. So that maybe explains the biggest -- or one big lever in the segment [ aiming ] that way. In Resource Efficiency we've seen good demand in all of the businesses. We have potential for price increases here and there. So there are some raw material price increases we have seen. They can be passed on. So that's the normal pattern. In Performance Materials, as I described, MMA still enjoys a very favorable market situation. I think, Q1, that is now already more or less sure. Q2 also looks good. And then in the second half, we'll have to see. So maybe that are the main building blocks for Q1. If we then extend that to the full year: We have some things which arrive very surely. That are the synergies, the higher synergies, the technical effects of first-time consolidation of Huber, our cost savings. That is all in our hands. Then we have some headwinds from FX. Keep in mind, in Q1 last year, the dollar was significantly stronger than in Q1 of this year, so over all year, we will see -- we might see, yes, significant double-digit amount from FX effects. We'll have to see how the dollar runs over the year. And then if you look down further down the year, in the second half and when MMA prices normalize somewhat step by step, of course, that meets then high comparables of last year, so on a year-on-year comparison that could be a negative impact. And we describe this also in our outlook, that PM as a whole will most probably not reach again the high levels of last year. So this is more or less the pluses and the minuses. We have the underlying growth in the other segments. And that, more or less, leads you to the middle of the range. And then of course, you can have a more optimistic or a more skeptic view on one or the other factor and then you have the range.

[Operator]

And our next question comes from Andreas Heine from MainFirst.

[Andreas Heine, Managing Director]

I have 3 small question. The first is on CapEx. Could you outline a little bit more midterm how you see CapEx; and already extracting the MMA business, what we can expect from here? I think it was 1 year ago, Ute, that you mentioned that there is some improvement possible on the maintenance CapEx. Maybe you can update us what we can expect for maintenance CapEx also excluding the MMA business. You were addressing that net working capital is where you are very disciplined. And indeed, in 2017, that was stable. Is that something we can expect again for '18, that the company grows without additional need of net working capital? That's the second. And the last one, could you elaborate a little bit on what you expect from the -- how the timing will be for the disposal of the MMA? Are you done with all the out-phasing of the business? And how will be the disposal process, please?

[Christian Kullmann, CEO & Chairman of the Executive Board]

First question was about for a specific time line, I guess. We have already started the process, and we are now on our way to finalize the internal preparations. And after this and thereafter, we will start immediately with the M&A process. But by the way, I guess it is not very prudent from today's perspective to speculate or to -- or just to communicate about a specific time line. It is like we do it always, step by step. And if we have done the job, there is something we will have to communicate. Having said this, I will hand over to Ute.

[Ute Wolf, CFO & Member of Executive Board]

Yes. Thank you, Christian. Andreas, on your 2 first questions. CapEx midterm, we've always described the sustainable CapEx level of around EUR 900 million to EUR 950 million in the upcoming years. Keep in mind, this year, we still have a big chunk on the timing in this. So maybe that gives you a little bit of an idea what the discipline here is. Very frankly, MMA maintenance CapEx is not so much. That will move the needle a little bit but not dramatically. And as another orientation point, also look at depreciation and amortization levels. So I think that are then in the end of the framework where we might slightly adjust the CapEx level going forward once MMA would be divested. Net working capital, we've made big progress in '16 and '17. Year-on-year, we had positive cash effect from net working capital. That is, of course, hard to repeat if you grow, if you're growing volumes, so from that point of view, I would not expect a positive inflow on the cash flow statement for this year, but of course we are working very hard to keep that on the best level possible.

[Operator]

And our next question is from Martin Roediger from Kepler Cheuvreux.

[Martin Roediger, Equity Research Analyst]

I have 3 questions. First, on methacrylates, what would trigger your decision to go for a partnership instead of a disposal? And do you mean as partnership a minority stake in a joint venture, allowing you to deconsolidate that business? The second question is on the strategic positioning in Animal Nutrition. Can you explain what you mean when you talk about the growth initiatives? Does that mean accelerating volume growth on the back of price concessions? Or do you feel that you will launch a lot of innovations in due course? Or is that related with acquisitions because you also mentioned in that context strategic initiatives? And the third question is on your new corporate strategy. You mentioned that you -- that -- key steps towards a more balanced specialty portfolio. That implies 2 things: the concentration on specialties; and b, a balance between the specialty activities. So my understanding is that you are not really happy with the current weighting of the 2 main growth segments. Do you see a higher need for acquisitions in the Nutrition & Care segment rather than in the Resource Efficiency segment? That's my questions.

[Christian Kullmann, CEO & Chairman of the Executive Board]

Okay, thanks a lot, Martin, for your questions. First, to the MMA business, all options are still on the table. And from our point of view, we would really prefer a straight sale. This was the first question. The third one, about the more balanced and more specialty-oriented portfolio. You know that we have 4 growth engines clustered in Specialty Additives, in Health & Care, in Smart Materials and Animal Nutrition. And one thing is for sure, that we are keen on strengthening them all on the same level to help to broaden them up because all of those businesses are very attractive. And we'll concentrate on them in an equal way. I guess these have been your questions. Or has there been -- is there one we left?

[Martin Roediger, Equity Research Analyst]

The question about the growth initiatives.

[Christian Kullmann, CEO & Chairman of the Executive Board]

Sorry. Okay, it's good...

[Ute Wolf, CFO & Member of Executive Board]

On Animal Nutrition I think it's there are many aspects to be kept in mind. One thing is we need to review the marketing approach. We have very specific services for big customers. And we have a certain number of customers who may be as not as specific and require a different service level. So that is, I think, explaining the adjustment of the go-to-market model really more equivalent to the customer service level that each customer needs and also is paying for in these. On the other side, it's also increasing efficiencies on our manufacturing sites. We are already cost leader, but we have now with our very new plant new procedures in place and new learnings which we can roll out in the other sites as well. That is also process R&D which we do, and we have across -- and we have results from that we can now apply across all sites. The second is then optimization in logistics and also in admin and other functions. So that all together stays on to the decimals.

[Operator]

Our next question is from Alexandra Thrum from Morgan Stanley.

[Alexandra Thrum, Research Associate]

My question's been answered. Thank you.

[Operator]

We will take our next question from Stephanie Bothwell from Bank of America.

[Stephanie Bothwell, Vice President]

The first one is a point of clarification on the CapEx. You said in the remarks earlier that sustainable CapEx is around EUR 900 million, EUR 950 million, but in 2018, you expect to spend around EUR 300 million in growth CapEx, so I just wanted to check. Shouldn't we expect the medium-term trajectory on CapEx to come down pretty materially and if you go down towards more of a sustaining CapEx level? The second question is on methacrylates. So we know that CapEx in that business is probably relatively low given it's not one of your key growth drivers, and cash contribution is therefore high given the relatively high pricing and spread environments. With the potential disposal set, can you talk about how you see the group's medium-term cash flow generation once that asset is divested? And can you provide us with some comfort that the sustainable cash flow generation of the group will indeed be enough to cover dividend going forward?

[Ute Wolf, CFO & Member of Executive Board]

Yes, Alexandra (sic) [ Stephanie ]. Thank you for the questions. There was -- sustainable CapEx level was always described as covering our growth CapEx needs, including methionine. So the chunk in this year is part of that long-term sustainable level that we have in the end formulated. So from this point of view, the EUR 900 million to EUR 950 million incorporate a bigger chunk, for instance, for methionine from time to time. So that cannot be subtracted like this because we have other businesses, if you think of silica where we have new capacities that come onstream this year but after some years we need new capacities there. And so it's really smaller projects, but throughout the group these EUR 900 million to EUR 950 million split up half in maintenance, more or less; half in growth. So that is the guideline we gave, and that holds true still today and also more or less in the future. The free cash flow potential of MMA should be not be mistaken. If you only look at last year, you have to look really through the cycle if you want to get an idea what the free cash flow contribution of MMA is. And I don't have to tell you that there were many years where this free cash flow contribution was rather low. The second point is we do not invest into growth here anymore. So easy to have good free cash flow if you do not invest into growth, but that is not a sustainable model for any business, so I think, from that point of view, we are set to grow. We invest into our growth drivers. Christian just reminded you of those. They have high returns, better margins, good growth rates. And over time, they will deliver a better quality in earnings and in cash flow.

[Operator]

Our next question is from Thomas Swoboda from Societe Generale.

[Thomas Swoboda, Research Analyst]

First, on the business you acquired from Air Products, in this business, before sales -- before the acquisition, the margins have come up quite significantly, I think, because of the input cost deflation. I'm just wondering if you could comment how happy you are with this business now and if you are able to keep these margins. Or should we think about a normalization of margins in this area? Any comment will be helpful. And the second question is more of a strategic nature, and it is on your pension provisions. Your pension provisions obviously are reducing the or hampering your financial metrics, also free cash flow generating, so -- generation. So I'm wondering. In the face of the planned disposal of methacrylates, is there any way for you to fix this pension obligation issue by injecting money or whatever, restructuring the whole obligation position? Is this a possibility? And is this within your game plan?

[Ute Wolf, CFO & Member of Executive Board]

Okay, thank you very much for the 2 very different questions. I'll start with PMD. The integration process and procedures go according to plan. Our synergies are realized as we announced them. The guidance was achieved. You have to keep in mind that the FX ratio turned unfavorably here. So we really had a -- quite a fall of the dollar in the second half, and you'll have to keep that in mind as well. Then on the potential proceeds of MMA, of course, having a look at the balance sheet incorporates pensions as well, so if we say we look at the capital structure, we look at the balance sheet, it's the full balance sheet. As I said, it's too early today to speculate on what it might be in the end, but of course the overall balance sheet structure is one important factor we have in mind. When we sell the business, of course, the pensions that relates to the people, at least here in Europe, normally they get transferred. In other countries, there are other regulations, so that is then country by country. But pensions that go with the people, of course, will be transferred into the carved-out entity.

[Thomas Swoboda, Research Analyst]

And if I may, to follow up: Is -- a strategic reduction of your pension costs, is this something that would be generally feasible? You must have looked into that. Or should we expect the pension issue to remain in our base case looking forward?

[Ute Wolf, CFO & Member of Executive Board]

We already injected EUR 1.6 billion in cash and another EUR 750 million in assets into our CTAs. So we've done that some 8 years ago, so -- and of course, we monitor that very closely, but again please understand that I cannot discuss detailed plans for proceeds. I don't know in the amount and in timing. I can only reiterate that balance sheet structure, capital structure is one thing we monitor. It's one thing we have on the radar screen with the proceeds and also if we don't have the proceeds, but this is all I can say today.

[Operator]

The next question is from Sebastian Bray from Berenberg.

[Sebastian Christian August Bray, Analyst]

The first one would be on free cash flow, please. And within your guidance for slight growth on a year-on-year basis into 2018, is there any provision for one-off restructuring charges that may occur once you come to a conclusion about how the remaining EUR 150 million of cost savings are to be achieved? Have you left yourself some playroom in case this materialized post June? My other question was more about what is left in Performance Materials. Why divest MMA now, as opposed to a whole segment? And why exactly -- what is it about MMA that makes it a more attractive divestment target now than for the rest of the -- let's say, the rest of the division? And a quick question just on a technicality: Of the EUR 250 million of cost savings promised, am I right in saying that we have the details for EUR 50 million of SG&A and EUR 50 million in Nutrition & Care? Or do we not have the details yet for Nutrition & Care?

[Christian Kullmann, CEO & Chairman of the Executive Board]

Okay, thanks for the questions. Let us start with the MMA process. As we have defined our 4 growth fields -- and now we have started to execute our strategy. And one of those first major steps towards a more stable and more profitable specialty portfolio is the exiting of the MMA business. This is at first. The next was I guess you have asked why we've done it now. And as we have given the strategy last year, we are now on our way to execute it. And I have asked during the summer last year only for 2 things. The first is to listen to me, and the second is to rely on my words. And having said this, we are now starting the execution process to bringing the MMA to the market. I guess this was the question. Ute?

[Ute Wolf, CFO & Member of Executive Board]

Yes. Then concerning one-off payment with cash flow, this is relatively unlikely. When we start a program, this year normally we have the provisions, and the payouts then follow over many years. So that will be the usual pattern. Then you asked on the details of the Animal Nutrition cost saving. That is EUR 10 million in this year and then EUR 20 million each in '19 and in '20.

[Christian Kullmann, CEO & Chairman of the Executive Board]

And I have to add something because you have asked about the whole segment. The whole segment for Performance Materials is classified as material business. And therefore, as I have mentioned, it is now on executing our strategy agenda, as you know me by far, step by step. And in respect of the C4 business, I think we have to add this: As of today, no other businesses are for sale.

[Sebastian Christian August Bray, Analyst]

So just to confirm. The -- you are saying that the C4 business is not currently for sale, or...

[Christian Kullmann, CEO & Chairman of the Executive Board]

Yes, that's right.

[Sebastian Christian August Bray, Analyst]

Understood.

[Operator]

That will conclude the question-and-answer session. I will now hand back to Tim for any closing remarks.

[Christian Kullmann, CEO & Chairman of the Executive Board]

Ladies and gentlemen, before we come to the end of today's call, I'm delighted to announce 2 special events in the course of this year. On April 10, my colleagues and I -- and my deputy CEO and I, Harald, will invite you and our analysts to our cell site in London. We will really appreciate to meet you there. And in September, we would like to invite you all to join us for our Capital Markets Day. I guess it is scheduled for the 13th and 14th of September. We are looking forwards to meeting you there and in our road shows in the next weeks.Thanks for your attention, and goodbye from Essen.

[Operator]

That will conclude today's conference. Thank you for your participation, ladies and gentlemen. You may now disconnect.