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Edited Transcript of ALRS.MZ earnings conference call or presentation 5-Jun-20 2:00pm GMT

·39 min read

Q1 2020 AK Alrosa PAO Earnings Call (IFRS) Moscow Jul 4, 2020 (Thomson StreetEvents) -- Edited Transcript of AK Alrosa PAO earnings conference call or presentation Friday, June 5, 2020 at 2:00:00pm GMT TEXT version of Transcript ================================================================================ Corporate Participants ================================================================================ * Alexey Nikolaevich Philippovskiy Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee * Sergey Sergeevich Ivanov Public Joint Stock Company ALROSA - President, CEO, General Director, Chairman of Mgmt. Board & Member of Supervisory Board ================================================================================ Conference Call Participants ================================================================================ * Andrew Ian Jones Wood & Company Financial Services, a.s., Research Division - Equity Analyst * Anna Antonova JP Morgan Chase & Co, Research Division - Analyst * Daniel Edward Major UBS Investment Bank, Research Division - Director and Analyst * Daniel Harry David Shaw Morgan Stanley, Research Division - Research Analyst * Nikolay Sosnovskiy Prosperity Capital Management Ltd - Director of Metals, Mining & Chemicals * Sergey Donskoy Societe Generale Cross Asset Research - Equity Analyst * Timothy William Riminton Barclays Bank PLC, Research Division - Credit Research Analyst ================================================================================ Presentation -------------------------------------------------------------------------------- Operator [1] -------------------------------------------------------------------------------- Dear ladies and gentlemen, welcome to the Q4 and 12-month 2019 IFRS results conference call of ALROSA. At our customers' request, this conference will be recorded. (Operator Instructions) May I now hand you over to Sergey Takhiev, Head of Corporate Finance, who will start this conference today. Please go ahead, sir. -------------------------------------------------------------------------------- Sergey Sergeevich Ivanov, Public Joint Stock Company ALROSA - President, CEO, General Director, Chairman of Mgmt. Board & Member of Supervisory Board [2] -------------------------------------------------------------------------------- Thank you. Good morning and good afternoon, ladies and gentlemen. I'm happy to welcome you to our first quarter 2020 results conference call. Today, our company represented by CFO, Alexey Philippovskiy. Alexey will start with a discussion of key developments and key highlights of the company, and then we'll be happy to take your questions. As always, elements of our presentation are forward-looking and based on our best view of the market today. Then I will pass the floor to CFO, Alexey Philippovskiy. Please go ahead. -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [3] -------------------------------------------------------------------------------- Hello, ladies and gentlemen. Thank you for joining us on this call dedicated to our Q1 2020 IFRS results. I hope you and your loved ones are safe and healthy. Let's move to Page #3 of our presentation. I will start by telling you how the company is managing the COVID situation. We did a lot to prevent it in the first place and helped our people and communities to be safe through these difficult times. We have implemented a range of measures, spanning from working conditions and schedule changes, health checks and sites cleaning to invest in millions of dollars in the health care system and safety measures in regions where we operate. As we regularly run COVID testing on our employees, we have identified a number of cases. All necessary measures were taken to prevent the spread of the virus as well as all necessary support for affected employees. Now let's move to the financial part of our story, and let's start with the market update. Page #4, please. As you remember, underlying demand in the second half of 2019 and early 2020 was very strong. Retailers were reporting high single-digit sales growth and promising offtake volumes from clients across all key markets. This allowed both retailers and the midstream to balance their inventory and improve their cash positions in early 2020. The COVID outbreak affected China first where jewelry sales in Q1 2020 were down by 20% to 30%. It took 2 months for the country to get back on the path to recovery. Q2 sales demonstrate strong recovery rates on a sequential basis though still slightly below last year's numbers. As the rest of the world lagged behind with preventive measures and travel restrictions, we saw a significant drop in buying activity in March, April and May. Only a couple of weeks ago, developed economy started to ease restrictions. We should understand that recovery will take some time, and the Chinese pace of recovery should be considered as an optimistic scenario for the rest of the world. For instance, the Q1 U.S. jewelry market, which accounts for almost half of global demand, was down 6% year-on-year despite a strong start for 2020 with the trough, we believe, being in Q2. The diamond supplier response was quick and constructive. Almost 30% of global production was closed and the lion's share is still being on hold. Major miners enacted a proactive price over volume strategy, allowing customers to defer purchases of rough stones. As for the midstream, after a decent recovery in the second half of the year, the midstream met the current coronavirus crisis in better shape compared to last year in that both stocks and leverage normalized. Lockdown for Indian polishers lasted for over 6 weeks. And as the restriction ease, polishers are now getting back to work, though not at their precrisis capacity just yet. Now let's move to Page #5 and talk about ALROSA response. Sales strategy. As one of the largest suppliers, we took most of the heat by helping the industry to retain its balance. Up to 100% of purchase obligations in April, May and June sites will be deferred to subsequent periods of the year. Production strategy. We wasted no time in adjusting production in line with the demand environment. To minimize cash outflows and limit stockpiling, we scaled down our production plans for 2020 from an initial 34 million carats to a range of 28 million to 31 million carats by putting on hold assets with narrow price cost spreads. This decision will decrease cash outlays in 2020 by about $100 million. The flip side of this is a per unit cost inflation as remaining fixed costs will be spread over the lower output volumes. We continue to be -- to remain flexible in terms of adopting production to demand and ensuring that our production capacities are maintained appropriately to enable them to restart when the situation improves. Overhead costs and G&A expenses are also in focus. We believe the full effect can be shown in our annual numbers as savings effect take traction. For example, in April, we introduced a 4-day workweek for all administrative personnel. As for the capital allocation, our CapEx for 2020 was already reduced to RUB 20 billion. However, this was down on the back of doing nonessential projects and holding back some infrastructure projects, such as construction of a new airport in Mirny. I should stress that this reduction won't have any significant impact on our operations. Maintenance CapEx is expected to be lower to match the reduced operating rates. Balance sheet health is in the spotlight now, and we have good progress here. Recently, we successfully closed a RUB 25 billion 5-year bond transaction at one of the lowest coupon rates in the history of Russian bond markets, 5.75% per annum for 5 years in Russian rubles. That is really exceptional. At the moment, our cash pile is around $1.2 billion, which is enough to run operations for over half a year. Now let me briefly walk through our Q1 performance before we turn to the Q&A. Page 6, please. ALROSA had strong sales in January and February, though tempering demand fed through our March sales. This allowed us to generate over $900 million in sales, which strengthened our balance sheet and improved profitability. In terms of volume, Q1 sales of 9.4 million carats exceeded our production, helping us to destock during the quarter. Our diamond stock dynamics are presented on Page #7. Inventory of finished goods decreased during the quarter as production was behind sales, though in the second quarter, stocks are set to increase due to lower sales. We assume that inventory growth in the second half of the year will be partially offset by a revised production plan and expected gradual sales recovery. Let's move to Page #8. As we keep reiterating, our sales strategy is price over volume. This is essential to preserving the value of diamonds and limiting price volatility. This consistent approach led to just a marginal reduction in the like-for-like price index, which was only 1% below Q4 numbers. Average selling prices saw a sequential decline of 17% quarter-on-quarter due to a high base effect in Q4 when the share of larger stones was higher. On a year-on-year basis, prices -- average prices remain flat. Looking at the rest of the year, we will try to keep our prices stable as the current issues in the industry are related to physical inability to sell rather than elevated prices. To summarize, we are mindful of the balance of supply and demand. And given the large size of our market share, we understand our responsibility for maintaining market stability and integrity for the whole diamond value chain. Now let's go to Page #9 and take a closer look at our financials. As you can see, we have once again delivered industry-leading profitability and strong free cash flow and a solid balance sheet. The group's sales remained practically flat over the fourth quarter. The overall decrease of 3% happened due to a decrease in noncore revenues. EBITDA remained strong and profitability increased to 48%. Free cash flow grew by 30% to RUB 22 billion. Page 14, please. Our balance sheet remains strong. At the end of Q1, our liquidity position was $1.1 billion, almost 2x higher than that at the year-end. Net debt-to-EBITDA ratio was healthy at 0.7%. We continued to further strengthen our balance sheet and made several deals, raised new debt in March of $200 million for 2 years, raised 2 other 2-year bank loans in April and May and issued the bonds on the Russian market that I just mentioned earlier. Now let's move to Page #16. As we mentioned, free cash flow sequentially grew to $22 billion, up by 30% on better profitability and moderate CapEx. Working capital buildup was marginal at roughly RUB 900 million as diamond stocks dropped almost fully compensating a seasonal growth in sands from alluvials and an increase in receivables. Let's turn to Page 17 where we will discuss dividends. In beginning of May, the Supervisory Board made a recommendation to distribute RUB 19.4 billion in dividends, which represents 100% of free cash flow for the second half of 2019. Assuming shareholders at the Annual General Meeting scheduled for later in June support this recommendation, total dividends for 2019 will reach RUB 47.7 billion. And finally, let's move to Page #18. We all face unprecedented uncertainty over the shape of the global economic recovery and how quickly consumers confidence will return to where it was earlier this year. Any forecasts about the speed of sector recovery should be viewed with a healthy skepticism, though let me highlight several trends which I believe are worth considering. The supply of rough diamonds continues to tighten as deposits are depleting and a number of mines are under lockdown or put on hold. The midstream is opening up. The Surat manufacturing sector where most of polishers are located has been cleared to resume operations with 50% of polishers coming back to work. The polishing sector will gradually increase its capacity utilization. According to the estimates, Chinese sales in the first week of May showed 105% performance year-on-year. As U.S. jewelers restart businesses in many states, a recent survey shows that U.S. consumer confidence is getting back to its normal levels. At the same time, we believe that luxury goods consumption in the U.S.A. and Europe is expected to show a slower rebound than that in China. After quarantine, people all over the world will value relationships more than ever. To that end, diamonds are one of the best ways to demonstrate one's affection and feelings. Classic gifts of love are expected to be in high demand. For instance, this year, jewelry was the top gift U.S. moms received for Mother's Day. Speaking about ALROSA's plants, we are developing different production scenarios for the upcoming years. The final decision will depend on the market conditions and demand. But I would like to reiterate that we are focused on maximizing free cash flow and long-term value creation. This concludes my presentation. Thank you for your attention. And now we are ready to take your questions. ================================================================================ Questions and Answers -------------------------------------------------------------------------------- Operator [1] -------------------------------------------------------------------------------- (Operator Instructions) The first question received is from Daniel M. of UBS. -------------------------------------------------------------------------------- Daniel Edward Major, UBS Investment Bank, Research Division - Director and Analyst [2] -------------------------------------------------------------------------------- Can you hear me okay? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [3] -------------------------------------------------------------------------------- Yes. Please speak. -------------------------------------------------------------------------------- Daniel Edward Major, UBS Investment Bank, Research Division - Director and Analyst [4] -------------------------------------------------------------------------------- Great. A couple of questions. First question. Just going into the demand sort of recovery and, in particular, your comments around sort of price-over-volume strategy, which I think are pretty consistent with your major peer, would it be fair to assume that you should be able to achieve certainly a similar level of pricing in Q1 as markets recover and as you increase volumes in the second half of the year? So would we be right in thinking that the $125 a carat approximately for the German quality is sort of price floor and you would likely to vary your volumes in order to sustain a minimum level at that sort of level when demand recovers? That's my first question. -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [5] -------------------------------------------------------------------------------- Yes. Thank you. Well, we do not have any set price floors. We will look at the market situation at the demand appetite and, generally, we make a decision on the pricing on a monthly basis based on the feedback we are getting from our customers. So we will continue to maintain our price-over-volume approach, but I cannot give you a specific number or dynamics for prices. It definitely will not be -- we will not see any rapid moves. But again, if you'll see that the midstream is faced with the issue of profitability, there could be some slight movement on the prices. It will depend on what we see once the markets opened. -------------------------------------------------------------------------------- Daniel Edward Major, UBS Investment Bank, Research Division - Director and Analyst [6] -------------------------------------------------------------------------------- Right. Okay. Second question. There's been quite a few press comments around Gokhran's potential involvement in diamond purchases. Appreciate you can't make explicit comments, but should we be thinking about Gokhran as a backstop to sort of prevent you from being free cash flow negative if demand does not recover? Or should we think of it as they may step in and make more material sort of purchases this year? How should we be thinking about that, if you can make any comment? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [7] -------------------------------------------------------------------------------- I believe Gokhran, it is an option that the company has. Currently, we have about $1.2 billion in cash. So we are not in any conversations or discussions with Gokhran at this point because, frankly, our liquidity position is very strong and we just don't need this assistance. However, assuming that we will see a second wave of infections and second wave of lockdowns, which I believe is unlikely, but assuming that happens, then Gokhran could be an option that the company could use. But again, at this point, it will be -- no discussions are taking place. And it will be up to Gokhran, the government and our Supervisory Committee to decide. Now there is just no grounds to enter in these discussions given our strong liquidity profile. -------------------------------------------------------------------------------- Daniel Edward Major, UBS Investment Bank, Research Division - Director and Analyst [8] -------------------------------------------------------------------------------- Very clear, very clear. And just final question or a technical question. Following your refinancing, can you just give us the breakdown of your FX denomination of your debt, rubles versus USD, I guess? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [9] -------------------------------------------------------------------------------- Yes. Currently, the total gross debt of the company is about $2.5 billion. Out of this amount, about $350 million is in rubles and the rest is in dollars. So most of it except some small subsidized loans that we used to purchase equipment from Belarus and the recently issued bonds on the Russian markets, everything else is in dollars. -------------------------------------------------------------------------------- Daniel Edward Major, UBS Investment Bank, Research Division - Director and Analyst [10] -------------------------------------------------------------------------------- Got it. So $350 million of the $2.5 billion is rubles and the rest is dollars. Perfect. -------------------------------------------------------------------------------- Operator [11] -------------------------------------------------------------------------------- The next question received is from [Alexey of SpareBank]. -------------------------------------------------------------------------------- Unidentified Analyst, [12] -------------------------------------------------------------------------------- We have several questions. Maybe I will ask them one by one. So the first question, what sort of recovery do you expect in July and August? So what could be the monthly sales if compared year-on-year or in millions of dollars? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [13] -------------------------------------------------------------------------------- I will not be able to give you exact numbers. I can just walk you through how I see the situation with recovery. The lockdown -- I mean, first of all, what happened? I think the demand for diamonds and the intrinsic value of diamonds, nothing happened to it. It is still there. The appeal of diamonds as a symbol of love has not been lost. So it's there. What happened is that 2 parts of the diamond value chain got frozen for a period of about 2 months, midstream and retail, due to lockdowns. The midstream is very concentrated. Most of the midstream is located in 1 city in India, in Surat, and Surat was on a 7-week lockdown. Same what's happening with retail. Most of the retail is located in the U.S., Europe, Japan and China. And those countries also had to go through serious lockdowns. So there was no demand from the retail because physically, people could not buy stones other than through the Internet. And the stones could not be polished for a period of about 2 months because Surat was on lockdown. As of now, Surat is gradually emerging from the lockdown. There are very strict social distancing rules and some other rules, for example, how many people could be in one room under the same air conditioning unit. So at this point, due to these restrictions, midstream can only function at about 50% capacity. And based on the feedback that we are getting from the midstream, the current inventory level is more or less normal, which is at about between 1 to 2 months of rough diamonds. But that is assuming that they work at 100% capacity. Given that they are starting to work on that 50% capacity, we believe that towards the end of July and definitely by the middle of August, most of the midstream will be faced with the necessity to resume buying rough stones, assuming that the pool from the retail continues. Now speaking about the retail. The retail in the -- in China is doing quite well based on the feedback we are getting from our customers in China. We believe that currently, the retail sales volumes for diamond jewelry is at about 90% of what it was precrisis. And it's picking up fast. For example, just a few weeks ago, we were getting numbers of between 50% to 60%. So it's getting back to normal. And we believe it will drive the demand from the midstream and it will get to the demand for the rough stones. So we believe that the sales of rough stones will start gradual recovery in August, continue into September. And our expectation is that in the fourth quarter, our sales numbers will be more or less in line of what it was last year, pretty much normal. So that is our base case scenario. In that case, we expect to sell about 25 million carats of diamonds for this year, and our sales should be in the range of between $2.3 billion to $2.5 billion. That's my current vision of what we should expect from this year in terms of sales and volumes. -------------------------------------------------------------------------------- Unidentified Analyst, [14] -------------------------------------------------------------------------------- Okay. Very helpful. So the second question, what impact on the cash -- on your average cash cost and total cash cost at millions of dollars? So what you see from closure of your assets? So from the assets that are already closed? And what could be the impact on your average product mix price in production after the closure of these assets? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [15] -------------------------------------------------------------------------------- Yes. It's a very good question. The -- assuming our latest production plans for 2020, which stand at around 29 million to 30 million carats, we believe that our average cost per carat in Russian rubles will grow by about 10% because some of the fixed costs we will still have to incur. We will just be able to get rid of the variable cost. In terms of the quality of the carats we produce, it will go slightly up, not significant, but we expect that the average price should be up by about 3% to 4%. On the back of moving several mass and Aikhal underground mine, which produced lower-quality stones, to a seasonal work schedule. So the assets that are producing our best quality stores, such as International, Jubilee and Nyurba, they are functioning there at their full capacity. -------------------------------------------------------------------------------- Unidentified Analyst, [16] -------------------------------------------------------------------------------- And the final question. So in the presentation, you showed that current production cutbacks imply production of 31 million carats this year. So in order to fall to the lower bound of your guidance of 28 million carats, you need to cut production at -- more at -- from other assets or maybe cut more production in several mines. And so could you please elaborate what other assets can be closed or where the production can be cut this year? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [17] -------------------------------------------------------------------------------- Nothing else will be put on hold this year. I mean this interval, 28 million to 31 million carats, the reason for that is the timing of closure. We are able to close some assets sooner. For some assets, we still have some uncertainty about the exact timing of the closure, but there's a number of factors relating to that, legislation, license requirements and so forth and the geological conditions, the climate. So at this point, this range is quite wide, 28 million to 31 million, but it's not because our plans for this year are not finalized. They are final. Nothing else will happen this year. -------------------------------------------------------------------------------- Operator [18] -------------------------------------------------------------------------------- The next question received is from Timothy Riminton of Barclays. -------------------------------------------------------------------------------- Timothy William Riminton, Barclays Bank PLC, Research Division - Credit Research Analyst [19] -------------------------------------------------------------------------------- So just to follow up on the question on Gokhran. There were some news reports back in early May, I believe, that the Yakutia region, one of your major shareholders, was proposing to purchase $1.7 billion worth of diamonds from Gokhran. Can you tell us any more about this proposal? Is it -- am I right to assume that this money would then be used by Gokhran to purchase further diamonds from you or is this separate? And then what does the region plan to do with those diamonds? Yes. And so any further insight on that would be great. -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [20] -------------------------------------------------------------------------------- I cannot comment on that article. I know that the governor of Yakutia would be supportive of this option if the company really needs it. I know that he had some discussions with the federal government about this, but that's all I know. If you look into the history, in 2009, this option was used by the company. And at that point, Gokhran purchased $1.1 billion worth of diamonds in 2009 and then resold them in 2012 and 2013 at a profit of about 20%. So the government had made money on that. If -- again, if we get to that option, which I don't think is very likely, then I would envision similar amounts and similar setup. But I would like to emphasize that at this point, no specific discussions are taking place with the government. And we just don't need -- based on the outlook we have as of now, we don't feel that we need that option at the moment. -------------------------------------------------------------------------------- Timothy William Riminton, Barclays Bank PLC, Research Division - Credit Research Analyst [21] -------------------------------------------------------------------------------- So to clarify on that, in the years following 2009, was it the Yakutia region itself which purchased the diamonds from Gokhran? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [22] -------------------------------------------------------------------------------- No. No. It's -- Yakutia is supportive of this purchase because Yakutia is the major shareholder, so they're very indifferent to how the company is doing. And also the company is a big taxpayer in the region. So Yakutia is supportive as the key shareholders. It was supportive in 2009, and I presume they would be supportive this year, but they're not the ones who are buying diamonds. Diamonds are bought for federal coffers to be held as reserves, for example, of gold. So it's federal government who is buying, not Yakutia. -------------------------------------------------------------------------------- Timothy William Riminton, Barclays Bank PLC, Research Division - Credit Research Analyst [23] -------------------------------------------------------------------------------- Okay. -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [24] -------------------------------------------------------------------------------- And then the federal government is selling too. Yes. -------------------------------------------------------------------------------- Timothy William Riminton, Barclays Bank PLC, Research Division - Credit Research Analyst [25] -------------------------------------------------------------------------------- Yes. Okay. And then just to -- a little bit of further insight on the midstream. I know previously, the midstream had issues with financing. Do you have any insight on what the financing environment for the midstream is like currently in the process and whether there could be any further issues there? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [26] -------------------------------------------------------------------------------- I believe this difficult situation with an excessive level of inventory and difficulties in financing that we saw in midstream last year, it was pretty much disappeared by the end of the year. So when this COVID situation happened, I think midstream was in a pretty good shape as evidenced by the purchases of roughs by the volumes that we saw coming from the midstream. In January alone, we sold over $400 million worth of diamonds, which is about 15% higher than the typical level for that month. So there was a strong appetite. They clearly had access to cash because all of the stones we sell, they are sold on the prepayment basis with the exception of domestic market. So I believe there were no issues when the COVID struck. As of now, based on the feedback we are getting from talking to our customers, they say that financing clients are still open and banks generally are understanding and supportive of the current situation. They understand what's going on. They understand that this is a temporarily -- temporary situation. And they are not withholding the credit lines. -------------------------------------------------------------------------------- Timothy William Riminton, Barclays Bank PLC, Research Division - Credit Research Analyst [27] -------------------------------------------------------------------------------- Okay. Great. And one final question from me. Can you give us any comments around your expectations for working capital and especially in Q2 where I think from your sales results so far that volumes will be quite low for yourselves in terms of sales? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [28] -------------------------------------------------------------------------------- Well, it will definitely increase because as you mentioned, sales -- I mean we published our sales numbers, and we will publish our May sales in a few days. And although they will be times higher than what we saw in April, they are still not nearly of the normal levels we usually see in May. So it will grow in the second quarter. The production levels in the second quarter will be in the range between 7 million to 8 million carats. And the sales should be probably 1 million to 2 million carats altogether. So we will see some inventory growth. And then Q3 and Q4 situation will really depend on the rates of market recovery and the market appetite. On one hand, we had decreased our production plants. On another hand, as I mentioned, even in the -- in our base case scenario, we are looking at around 25 million carats that we will sell this year, and we will produce at least 28 million. -------------------------------------------------------------------------------- Operator [29] -------------------------------------------------------------------------------- The next question received is from Dan Shaw of Morgan Stanley. -------------------------------------------------------------------------------- Daniel Harry David Shaw, Morgan Stanley, Research Division - Research Analyst [30] -------------------------------------------------------------------------------- Two from me. First one, if you look at your clients and I suppose, further down the chain into the midstream, do you think the current market conditions may be some sort of catalyst for change and potentially consolidation with stronger companies taking more market share and ultimately contributing to what could be sort of a stronger, more robust and potentially more creditworthy part of the industry in the future? Is this a thing that you're seeing or hearing about? That's the first question. And then the second one really is just a quick one on production for next year. How late in the year can you sort of make decisions around that? Or can you really sort of leave it even into the first quarter of next year before you kind of make final decisions on your plans there? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [31] -------------------------------------------------------------------------------- Dan, did I understand you correctly that your first question relates to the midstream, right? -------------------------------------------------------------------------------- Daniel Harry David Shaw, Morgan Stanley, Research Division - Research Analyst [32] -------------------------------------------------------------------------------- Yes. That's right. Yes. -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [33] -------------------------------------------------------------------------------- Yes. Well, there was some limited consolidation in midstream last year when some of the players that were facing difficulties in attracting financing changed ownership and were consolidated in some more prudent players. At this point, I have not heard about any major consolidation. In fact, I haven't heard anything about consolidation in the midstream at this point. So from -- based on the feedback I get, nothing is happening, but I might be missing something. In terms of the production plans, our aspiration is to bring our inventory level to a level of about 15 million carats over the period of about 3 years. I expect that we will finish this year with about 27 million to 30 million carats of inventory, depending on the rate of the recovery. And then going forward, we will try to set our production at a level of roughly 5 million carats below of the expected demand. So the production volumes will be driven by the demand. And generally, we have total flexibility up until October on setting the production plans for the next year. After that, we also have some flexibility as we showed this year because we are adjusting production even now and adjusting quite significantly. But it would not be -- it will not be in the same level of flexibility as we could do in October the year before. So October, I would say, is the timing where we have to have a strong hypothesis on what we want to produce. After that, we can adjust it somehow, plus or minus 2 million carats I think is possible, but October is the day where we should have a visibility on that. -------------------------------------------------------------------------------- Operator [34] -------------------------------------------------------------------------------- The next question received is from Anna Antonova of JPMorgan. -------------------------------------------------------------------------------- Anna Antonova, JP Morgan Chase & Co, Research Division - Analyst [35] -------------------------------------------------------------------------------- A brief follow-up question from our side on your CapEx. On Slide 13, I've noticed that you have revised your CapEx down. But if we sum the 5-year CapEx total over 2020, 2024, the new updated CapEx guidance is roughly 20% lower. So the RUB 23 billion difference in total CapEx over these 5 years, does it relate to some postponing of some other projects to 2025 plus? Or does this lower CapEx, which is equal roughly to your 1 year of CapEx, does this lower CapEx imply or reflect the potential decrease in your midterm production profile? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [36] -------------------------------------------------------------------------------- Yes. Thank you for your question. This decrease in CapEx will not impact our production potential, which will remain at 37 million to 39 million carats per year up until the end of 2020. The decline is explained by several reasons. First, we will be producing less diamonds. As I mentioned that we will produce about 5 million carats less than the market demand and assuming that the demand will be at a normal level, which is about 37 million to 39 million carats, we will be producing 30 million to 35 million, something like that. So it will require less maintenance CapEx and it will require less ongoing CapEx to maintain our mines and open pits. So this is the major reason for the decrease. In addition, we are working on very ambitious projects to totally rehaul our maintenance approach moving to risk-based, predictive maintenance. It's -- so big projects we are doing right now with a major consulting company. And we believe these projects will allow us to realize certain cost savings in maintenance CapEx as well. In terms of infrastructure or other projects over this period or from 2020 to 2024, all of them will be realized as planned. And the major projects have been moving our Udachny facility to natural gas from electricity as a way to heating of power generation, heating for Udachny facility to natural gas that we produce and construction of new airport at Mirny. Those are the 2 major infrastructure projects that we are working on. -------------------------------------------------------------------------------- Operator [37] -------------------------------------------------------------------------------- (Operator Instructions) And the next question received is from Sergey Donskoy. -------------------------------------------------------------------------------- Sergey Donskoy, Societe Generale Cross Asset Research - Equity Analyst [38] -------------------------------------------------------------------------------- Yes. Can you hear me? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [39] -------------------------------------------------------------------------------- Yes, please. -------------------------------------------------------------------------------- Sergey Donskoy, Societe Generale Cross Asset Research - Equity Analyst [40] -------------------------------------------------------------------------------- Yes. I apologize I joined the conference a bit late, so I could have missed some of the questions asked before. My first question is really the follow-up to the previous one. Your CapEx guidance is now significantly lower than it used to be basically for the entire period of 5 years until 2024. I understand that in the next 2, 3 years, sustaining CapEx will be lower because of a significantly lower production volumes. But speaking of 2024, we are supposed to be back to situation as normal and yet your long-term CapEx is still about $4 billion below what it used to be. So I'm just trying to understand what are the moving parts here? And I have three more questions. -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [41] -------------------------------------------------------------------------------- Well, 2024 is quite far away. So I would not guarantee that this is a number that we will give you when we get closer to that year. This is our current view. And there is a chance that it will be higher. I think the major driver that could bring that number up is the work to reconstruct the Mir mine. We will make a decision closer towards the end of next year. And some of the CapEx, if you make the decision to reconstruct that mine, will be seen already in 2024. It's not accounted here for. Other than that, this is -- I mean all I can say, this is our current view on the CapEx in 2024. -------------------------------------------------------------------------------- Sergey Donskoy, Societe Generale Cross Asset Research - Equity Analyst [42] -------------------------------------------------------------------------------- I see. And just to clarify, you mentioned that you're fine to maintain your production at close to 37 million, 40 million carats until end of 2020. At what time will you need to step up your investments in capacity to maintain your production beyond that date? Is it somewhere after 2024? Or just some idea of what sort of flexibility you're having here? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [43] -------------------------------------------------------------------------------- Well, it should be no later than 2025 because if you are speaking about the reconstruction of Mir mine, it's a massive, massive project. It will require building a new mine shaft really deep because the project envisions that we will mine the Kimberlite pipe coming from below and going up, it's a lot of CapEx. And it takes about at least 5 to 7 years to get it done. So assuming that we will make the decision to go forward, we will have to start no later than 2025. -------------------------------------------------------------------------------- Sergey Donskoy, Societe Generale Cross Asset Research - Equity Analyst [44] -------------------------------------------------------------------------------- Understood. And my second question is about cash costs. This may have been addressed early in this call. Could you give some idea of what impact the stoppages that you plan will have on your unit cash costs per tonne of ore? Or alternatively, what sort of impact totally on total costs you expect? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [45] -------------------------------------------------------------------------------- The average cost per carat should be higher by about 10% to 15% in 2020. -------------------------------------------------------------------------------- Sergey Donskoy, Societe Generale Cross Asset Research - Equity Analyst [46] -------------------------------------------------------------------------------- Okay. And this is assuming what sort of a grade this year versus last year? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [47] -------------------------------------------------------------------------------- It assumes that the grade will be slightly higher because again we have been selective in what assets we are putting on hold and what assets we will continue to mine. So it's -- grade is actually will be more slightly higher, but the average price will be even more higher. The reason that the grade will be only slightly higher because on one hand, we will be getting rid of some of the alluvials where the grade is very low, especially Almazy Anabara. We will get rid of some production at several mass where the grade is also lower than average. But at the same time, we will get rid of some of the production volumes at Aikhal underground mine where grade is in excess of 5 carats per tonne. But those carats are about $40 each. So those are not very expensive carats. So it's a tricky question because you have to look not just at the grade -- on the grade, but also on the quality of the carats. The average quality should be about 2% to 3% higher and the average grade should be maybe like 1% higher, something like that. -------------------------------------------------------------------------------- Sergey Donskoy, Societe Generale Cross Asset Research - Equity Analyst [48] -------------------------------------------------------------------------------- Sorry, you said grade will be by how much higher? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [49] -------------------------------------------------------------------------------- The grade will be about 1% to 2% higher. It's actually close to 1 carat per tonne average. And the actual realized price should be about 3% to 4% higher. -------------------------------------------------------------------------------- Sergey Donskoy, Societe Generale Cross Asset Research - Equity Analyst [50] -------------------------------------------------------------------------------- And 3% to 4% higher versus to what, versus first quarter this year, versus last year? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [51] -------------------------------------------------------------------------------- The production profile in normalized prices will add about 2% to 3%. That's how I should put it probably. -------------------------------------------------------------------------------- Sergey Donskoy, Societe Generale Cross Asset Research - Equity Analyst [52] -------------------------------------------------------------------------------- Okay. So 2% to 3% versus normalized sales mix? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [53] -------------------------------------------------------------------------------- Yes. Yes, which will be like $3 to $4 per carat. -------------------------------------------------------------------------------- Sergey Donskoy, Societe Generale Cross Asset Research - Equity Analyst [54] -------------------------------------------------------------------------------- And lastly, speaking of first quarter results, how would you describe sales mix in the first quarter 2020? Was it kind of in line with your long-term average or was it somehow different? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [55] -------------------------------------------------------------------------------- The mix had somewhat deteriorated versus the fourth quarter. But fourth quarter was really exceptional. There was a strong demand for larger stones. So I would say that the sales mix for the first quarter of 2020 was slightly below our production profile by a few dollars. -------------------------------------------------------------------------------- Operator [56] -------------------------------------------------------------------------------- (Operator Instructions) And the next question received is from Nikolay Sosnovskiy of PCDA. -------------------------------------------------------------------------------- Nikolay Sosnovskiy, Prosperity Capital Management Ltd - Director of Metals, Mining & Chemicals [57] -------------------------------------------------------------------------------- My question is, do you think the diamond industry is doing enough to drive end consumer demand? And if not, what are the other things do you think the industry can do to drive greater diamond jewelry demand globally? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [58] -------------------------------------------------------------------------------- Well, it's all about market positioning and marketing spending. We do invest in Diamond Producer Association. We actually -- together with De Beers, we are 2 most active players and largest sponsors of those association. The budget for that initiative is only going up, and I believe it will go up despite the crisis. I believe the -- there is a very limited opportunity to increase the volumes of diamonds that could be offered to the market in the medium and long terms. I mean today, the situation is a bit different because we have high inventory and other players have relatively high inventory. So for 2 to 3 years, we can serve the market at the current demand. But after that, if you look at the dynamics of supply, supply went down by about 4% last year. I expect it would come down on the back of the lockdowns and depletion of Argyle and some economic difficulties that some of our competitors are facing by about 20%, which we will recover somewhat in 2021. But diamond supply is on a long-term downward track. And I think this should put some upward pressure on the prices because demand in the long term or in the medium term should grow in line with disposable income assuming that all industry players continue to market or maybe even do it more actively, market the diamonds. But the supply will not be able to catch up. So I think the story of ALROSA, the investment case of ALROSA here is that we have highest reserves globally. Altogether, it's about 1 billion carats, much more than any of our competitors. So we would be -- we will be in the position to increase our market share, maintain our volumes for an extended period of time while benefiting from this disparity in demand and supply, which should drive the prices higher. And we are very conscious that we will have to invest in marketing and we will do that. -------------------------------------------------------------------------------- Operator [59] -------------------------------------------------------------------------------- And we received a further question. It's from Andrew Jones of Wood & Company. -------------------------------------------------------------------------------- Andrew Ian Jones, Wood & Company Financial Services, a.s., Research Division - Equity Analyst [60] -------------------------------------------------------------------------------- Just one that no one's asked about so far. The -- what's the situation with Catoca at the moment? And at the start of the year, you were talking about potentially receiving dividend, I think about $70 million there. Presumably, that's not going to happen now. And what are your expectations for cash flow at that asset? Are you going to have to inject any capital into the asset given the current circumstances? -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [61] -------------------------------------------------------------------------------- It might be the case that we will not see that $70 million this year and we are not counting on that in our liquidity planning. Although it's still due, it's dividends for last year, and we believe they will be paid either this year or next year. And getting to the second part of your question, whether we consider any equity or debt injection in Catoca, no, nothing like that is being discussed. Catoca is a high-margin business. I think the worst that could happen to Catoca is we will have to take it slowly, the investment in our venture in Luele. That's a deposit that's quite close to Catoca that seems to be pretty attractive. So it might take a bit longer to get the project up and running than what we thought originally and what Catoca believed originally. But no cash will go in Africa from Russia. I don't expect it. -------------------------------------------------------------------------------- Operator [62] -------------------------------------------------------------------------------- We receive no further questions. So I hand back to the speakers. -------------------------------------------------------------------------------- Alexey Nikolaevich Philippovskiy, Public Joint Stock Company ALROSA - CFO & Member of the Executive Committee [63] -------------------------------------------------------------------------------- I would like to -- ladies and gentlemen, I'd like to thank you for your interest in the company and thank you for your attention. As a few final words, I would like to say that I believe that despite this turbulent and unique situation in the global economy, the appeal of diamonds as a symbol of love, as a way to express feelings and emotions and affection, if anything, it's strengthened. I think people will value -- emerging from the situation, people will value relationships even higher. And I think fundamentally, the diamond industry will be in a better position after all this COVID situation is over. And I believe that our company is very well positioned to benefit from the recovery that will definitely happen. Thank you. -------------------------------------------------------------------------------- Operator [64] -------------------------------------------------------------------------------- Ladies and gentlemen, thank you for your attendance. This call has been concluded. You may disconnect.