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Edited Transcript of BLD.AX earnings conference call or presentation 20-Feb-20 12:00am GMT

Half Year 2020 Boral Ltd Earnings Call

Sydney Mar 16, 2020 (Thomson StreetEvents) -- Edited Transcript of Boral Ltd earnings conference call or presentation Thursday, February 20, 2020 at 12:00:00am GMT

TEXT version of Transcript

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Corporate Participants

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* David Mariner

Boral Limited - President & CEO of North America

* Michael Kane

Boral Limited - CEO, MD & Director

* Wayne Manners

Boral Limited - President & CEO of Boral Australia

* Yuen Ling Ng

Boral Limited - Group President Ventures & CFO

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Conference Call Participants

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* Andrew Geoffrey Scott

Morgan Stanley, Research Division - Executive Director

* Brook Campbell-Crawford

JP Morgan Chase & Co, Research Division - Analyst

* Daniel Kang

Citigroup Inc, Research Division - VP & Head of Chemicals and Packaging Equity Research

* Keith Chau

MST Marquee - Building Materials & Packaging Analyst

* Peter Wilson

Crédit Suisse AG, Research Division - Associate

* Sophie Spartalis

BofA Merrill Lynch, Research Division - VP and Senior Resources Analyst

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Presentation

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Michael Kane, Boral Limited - CEO, MD & Director [1]

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Good morning. Thank you for joining us today. We appreciate Morgan Stanley hosting us in their Sydney office.

Today's results announcement follows our February 10 ASX releases, which included a high-level announcement of our half year results and updated guidance for our financial year 2020. Today serves to provide greater detail and explanation around the numbers and an update on our current priorities. As is our usual format, I'll cover most of the presentation, but I will hand over to Ros Ng, our Group President, Ventures and CFO, who will present the financials in the middle section of the presentation. Joining me and Ros today are Wayne Manners, President and CEO of Boral Australia; and David Mariner, President and CEO of Boral North America, both of whom will be available to respond to questions at the end of the presentation.

Looking at the financials. We have split out continuing operations from our total operations, as we typically do, with Midland Brick moving into discontinued operations for both periods and U.S. Block and Colorado Construction Materials in last year's number. We've also backed out the impact in this year's numbers of the new AASB 16 leasing standard to give you a better comparable basis. We will refer to the excluding leasing numbers throughout the presentation. If we don't do that, you can see that EBITDA has increased from $470 million to $493 million for the half year, but the increase reflects a $53 million favorable movement due to changes in the accounting rules. Instead, on a like-for-like basis, EBITDA was 6% down to $440 million on the back of a 2% revenue lift for continuing operations. NPAT of $159 million before significant items was down 18%, and statutory NPAT of $139 million is comparable with $229 million. This year, we had a $20 million significant items related to restructuring and transaction costs. Last year, we had a net positive $36 million of significant items due to profits on divestments.

As you know, safety is our first priority. We've seen a 4% improvement in recordable injury frequency rate in the first half of financial year '20 compared with financial year '19 and a reduction in the severity of injuries. But we have seen a stubborn plateauing of lost time frequency rate with contractor injury numbers in Australia higher than the prior year. We're committed to returning to a trajectory of improvements across all measures. Our attention is heavily focused on working with our contractors to ensure they are well aligned with employee safety improvements.

Boral's first half EBITDA for financial year 2020 was broadly in line with guidance. Results from Boral Australia and USG Boral were encouraging, given the significant downturns in housing activity in Australia and South Korea. Improvement programs and cost-reduction initiatives in both divisions helped to offset the impact of lower volumes. We were, however, disappointed with performance in Boral North America, largely due to shortcomings in our operational execution. Group EBITDA of $440 million was $30 million lower than $470 million in the prior year after restating to correct for Windows' misreporting in the first half of '19.

During the half, Australian roads, highways and infrastructure activity remained solid and is forecast to be up around 5% this year. Non-res activity was up around 3% in the first half, while total housing starts were down around 23%, which had a significant impact on the business in Australia. In the U.S., housing starts increased around 13%, with a very strong boost in December pushing that number up. In Asia, conditions were mixed. Most markets were broadly steady, but South Korea continued to decline and Thailand also softened.

Turning to our 3 divisions. Boral Australia's revenue was down 2%, reflecting a higher contribution from Asphalt, offset by a lower contribution from the more housing-exposed businesses of Concrete and Building Products. On the back of a 7% volume decline in Concrete, prices have been holding up. Like-for-like prices were steady in Cement and Quarries and down 1% in Concrete. EBITDA was down 1%; but excluding property, EBITDA was down 12%; $29 million from Property; and cost savings of $30 million substantially offset the impact of lower activity.

While the first half result was encouraging, we've had a challenging start in the second half of the year. January Concrete volumes were down 30% year-on-year, as the bush fires significantly slowed the industry returning to work after Christmas. The extreme wet weather in February has also impacted. Wayne and his team are working hard to deliver benefits from cost savings and improvement programs. With $30 million delivered in the first half, they are targeted to exceed $80 million for the full year.

In Boral North America, revenue was up 4% to USD 825 million, largely driven by growth in Light Building Products and Fly Ash sales. We also saw revenue growth in Windows. EBITDA declined 17% to USD 111 million for continuing operations. Light Building Products delivered a solid earnings lift. But as expected, Fly Ash site service work was down as we completed a major construction project in the SynMat business.

We have a disappointing result from Stone with volumes down 10%, while Roofing delivered broadly steady earnings on a favorable comparable period when hurricane rework was at a peak. Price increases, which ranged from 1% in Stone to 10% in Fly Ash, and USD 7 million of Headwaters synergies were more than offset by higher costs. We had USD 10 million of one-off costs, including $3 million of Windows legal costs, $1 million of Windows investigation costs and $6 million in increased provisions associated with the discontinued TruExterior bevel product in BCI. You might recall that 18 months ago, we discontinued the metal product that was causing production problems and high costs in BCI. We have been steadily reducing the inventory of poor-quality metal product by repurposing it into other products. However, the recovery rate of quality board that can be repurposed has been reducing. And hence, we've adjusted our carrying value by USD 6 million.

In addition to 3% inflationary cost increases in Building Products, we also saw around USD 7 million of cost increases in Fly Ash, including inflation, higher supply chain costs and higher royalty costs. The impact of lower volumes in Stone resulted in around USD 4 million of lower fixed cost absorption, which is also in the cost increases category in the waterfall chart. The 10% reduction in Stone volumes includes 7% due to lower intensity of manufactured stone products in the U.S. A further 2% of the volume decline is due to the housing downturn in Canada and 1% due to the completion of a large project that we secured when a competitor plant was temporarily shut down in California in the prior year. I'll come back shortly to talk about the actions we are taking to address the intensity challenges and to claw back volumes and improve returns.

In USG Boral, revenue decreased 2% to $812 million in the underlying business due to cyclical housing declines in South Korea and Australia largely offset by growth in other countries. While prices strengthened in Australia, prices were significantly down in South Korea and remained under pressure in Indonesia. EBITDA decreased 8% to $115 million with strong growth in China and improved earnings in Thailand offset by decline in South Korea and softer earnings in Australia. Cost reductions and rightsizing delivered savings of around $9 million of the first half, and a further $10 million is expected in the second half. Boral's equity accounted income of $23 million was down 8%.

We delivered USD 7.1 million of synergies, including procurement benefits in the first half after reversing $700,000 of synergy benefits we reported for the Windows business last year. The outcome for the first half was below where we thought we would be. The primarily -- this primarily reflects lower-than-expected volumes in the first half, particularly in Stone. We now expect around USD 15 million of synergies for the full year financial year '20, which may be higher if we can recover some additional volumes in the second half. We are continuing to target USD 115 million of synergies in total.

We continue to target returns that exceed the cost of capital. Boral Australia delivered an EBIT return on funds employed of 14.5%, well above our ROFE equivalent cost of capital of around 9%. Boral North America, with a ROFE of 4.5%, remains well below where we needed to be and where we expect it to be at this point in the cycle. The slight improvement in North America's ROFE reflects the fact that we are using a 12-month moving average calculation of EBIT, and we had a stronger second half of financial year '19 than the second half of financial year '18, about $15 million higher. Our funds employed are also slightly lower due to the impairment of Meridian in the second half of financial year '19.

USG Boral's underlying ROFE of 7.6% was below Boral's cost of capital, reflecting the lower half year earnings performance. We acknowledge that we have to do better with group ROFE at 7.3% for the half year. We're very focused on executing improvement initiatives over the remainder of financial year 2020 to improve returns across all our businesses. I'll outline these initiatives for each of our businesses in a moment.

But first, I'll hand over to Ros to go through the financials in more detail.

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Yuen Ling Ng, Boral Limited - Group President Ventures & CFO [2]

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Thanks, Mike. Good morning, everyone. Boral's 2020 half year results is in line with guidance provided earlier this month. For ease of comparison, my comments will focus on first half financial year 2020 excluding the impact of leasing.

Reported revenue of just under $3 billion was in line with the prior period, and EBITDA of $439 million was down 8%. Depreciation and amortization of $162 million was up from $156 million reported for the first half last year. This excludes the $31 million of amortization of acquired intangibles relating to the Headwaters acquisition. Net interest of $52 million was slightly higher than the prior period primarily due to foreign exchange.

Income tax expense of $35 million and effective tax rate of 18% were lower than the prior year. The lower effective tax rate reflects further recognition of previously unrecognized U.S. tax losses and utilization of capital losses. Excluding these impacts, the underlying effective tax rate is around 24%. Net profit after tax is down 18% to $159 million. Significant items, which I'll turn to in the next slide, total a net cost of $20 million.

Looking at significant items in more detail. The costs incurred in the first half financial year '20 are primarily a continuation of projects initiated in prior periods. The $8 million for Headwaters integration costs is the residual amount highlighted previously, related primarily to rationalization in our Boral legacy and Headwaters stone businesses. The $7 million of cost reduction and rightsizing costs is a continuation of our organization effectiveness program in Australia in response to the decline in market conditions. Finally, the $8 million of legal and consulting fees represents the costs incurred in conjunction with the expansion of the USG Boral joint venture in Asia and the return to 100% ownership of the Australia/New Zealand plasterboard business.

Turning to cash flow. Operating cash flow of $192 million decreased $61 million from the prior period primarily as a result of lower operating performance of the business. Net working capital outflow of $102 million primarily reflects lower payables and the impact of restatement of the June 2019 Windows working capital balances. Our underlying working capital outflow improved $19 million over the prior period mainly due to lower debtors resulting from lower volumes in Australia and in Fly Ash with the collection of the unbilled site services receivables from the prior period. Cash flow was also unfavorably impacted by unbilled property development receivables expected to be collected in accordance with the terms.

Free cash flow of $35 million was lower primarily driven by the prior year's inflow resulting from the sale of our Denver Construction Materials and Block business in the U.S.

Turning to capital expenditure. Capital expenditure increased 3% to $189 million. In Australia, we continue to progress construction of our new clinker and slag grinding and storage facility at Port Geelong in Victoria, which is expected to be completed by the end of calendar year 2020. We also made investments in Boral Concrete and Quarries network, including our Bringelly concrete plant in New South Wales and upgrade of our Bacchus Marsh sand plant. Capital spend in Boral North America include investments in Windows with a new plant in Houston near completion; Fly Ash, including plants and storage upgrades; and Stone with upgrades with our Stonecraft plant. The USG Boral joint venture continues to self-fund its capital requirements. Our capital expenditure is expected to be around $400 million in financial year 2020, which is more than $50 million lower than the previous year.

Now looking at the balance sheet. At 31st of December 2019, Boral's net debt position was $2.3 billion, which is substantially in line with the balance at 31st of December 2018. We remain well within all our group funding covenants with our principal debt gearing covenant at 30%, which is a slight increase from 29% at June 2019. Our weighted average debt facility maturity is 4 years, down from 4.5 half years at June '19. Our Swiss note and a tranche of our U.S. senior notes will mature during second half financial 2020, and we have plans well underway to secure new funding.

Our net interest cover of 4.7x is down from 6.4x in June, and our net gearing, net debt over net debt plus equity, was 29% at the end of December 2019, up from 27% at June. In addition, given the new leasing standard, Boral has recognized $392 million of lease liabilities at December 2019, which has not been included in the gearing calculation as the impact is specifically excluded from covenants.

We remain focused on prudent balance sheet management to ensure operational flexibility. We are committed to retaining our existing BBB and Baa2 investment-grade credit ratings. The dividend reinvestment plan is being reactivated to commence with the current dividend, and we will be underwriting DRP in respect to both the dividend and the final dividends for financial year 2020. This will reinforce our balance sheet while we continue to pursue opportunities for further divestment of noncore assets.

I'll now hand back to you, Mike.

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Michael Kane, Boral Limited - CEO, MD & Director [3]

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Thanks, Ros. Let me now make some comments on our priorities for the second half.

Since 2012, we have been focusing and realigning our portfolio to position the business for stronger performance through the cycle. We've been growing around less capital- and energy-intensive operations with lower fixed costs to improve returns and perform more consistently through the cycle. We've exited businesses where we don't have scale or cannot see a path to building scale, and we've been concentrating on markets that have positive, long-term fundamentals. We have a broader, more diverse exposure to key building and construction markets across Australia, Asia and North America. We're building increased capabilities in the area of innovation and R&D. And through collaboration, we have substantially improved our safety performance across all our operations.

While we have a strong portfolio of businesses, we recognize we need to do a better job at execution to fully leverage the potential of our businesses and to deliver on our goals of above cost-of-capital returns through the cycle and 0 harm safety outcomes. We are focused on maintaining investment-grade credit ratings, which means responsible and prudent capital allocation and maximizing returns and cash generation.

We are resolutely focused on executing improvement initiatives over the remainder of the year to strengthen our business, including in Australia. Our strategy for Boral Australia is to protect and strengthen our leading, vertically integrated businesses. We are focused on maintaining attractive, above cost-of-capital returns and margins, harnessing our leading position in Australia, leveraging innovation and profitably supplying the multiyear infrastructure pipeline. As I said earlier, we are targeting to exceed $80 million of benefits from improvement initiatives in Boral Australia this year, and we delivered $30 million in the first half.

We've completed our major quarry reinvestment program with Ormeau Quarry in Queensland continuing to ramp up, in line with expectations. Our new 1.3 million-tonne clinker and slag grinding storage facility at the Port of Geelong is progressing well and is on track to be completed by the end of calendar year 2020. Our focus and investment in R&D has been strengthened through a new partnership with the University of Technology Sydney and a recent global restructure of our innovation team.

The acquisition of Headwaters in May 2017 substantially strengthened Boral's North American portfolio. We maintain the same conviction in the strategic fit of the business that we had at the time of the acquisition, and we acknowledge that execution of our overall strategy in North America has fallen short of delivering the results we had expected by financial year '20. Our strategic imperatives in North America are to drive ROFE to above cost of capital; fully leverage growth from the Headwaters acquisition, including delivery of our $115 million synergy target; and deliver our Fly Ash and Building Products growth opportunities. While we are focused on execution, we're also scrutinizing our plans and strategies that are in place to make sure that they remain the right things to do and can deliver the required results. Where necessary, we are adapting our plans in light of any changes to market or competitive dynamics.

Across Boral North America, there's more than 50 operational improvement projects currently underway to grow our top line and improve operational performance. In Stone, we have actions underway to grow volumes through product development and targeted marketing programs, particularly to increase volumes in the commercial sector and interior applications. We have margin and cost-improvement projects underway, including procurement initiatives. Similarly, in Light Building Products and Roofing, efforts are continuing to improve manufacturing efficiencies, reduce wastage, grow sales and improve margins.

In Windows, we are implementing a margin-improvement plan to drive improvement for the current low single-digit margins to double-digit margins in the medium-term. We've reorganized the Windows business so that it is now operating under Light Building Products -- within Light Building Products with stronger financial and operational oversight.

In our Fly Ash business, we are making good progress to deliver on our Fly Ash strategy of growing available supply of ash by an annualized rate of 1.5 million to 2 million tons by the end of financial year 2021. That's on 2018 levels. We captured an additional 150,000 tons in the first half related to a prior period through improved network optimization and use of storage. We secured 2 new contracts that will deliver around 290,000 tons per annum in the full year, and we lost 1 contract of around 175,000 tons per annum. So our net gain is 120,000 tons. The Montour landfill reclaim operation is working well and serving as a great showcase for what's possible. Discussions with the utilities to replicate this reclaim operation are continuing, and we are tendering on large projects involved in construction and reclaim opportunities.

In December 2019, we acquired long-term exclusive marketing rights for 24 million tons of high-quality natural pozzolan in Arizona. The beauty of this product is that it can be used as a fly ash replacement with no blending required. We will mine and process the pozzolan in a facility being constructed at the Kirkland Mine site with production expected to ramp up to 500,000 tons over a 2-year period. This is a significant source of supplementary cementitious materials for supplying Arizona, Nevada and other western markets. We have acquired the mining rights for USD 4 million, which we will pay over 4 years. We will invest some capital into the construction of the facility, and we've negotiated an attractive per-ton royalty once we start mining in late financial year 2021. We expect EBITDA margins to be in the range of 20% to 25% on this project.

We continue to supply the market with small volumes of imports from Mexico. And while imports remain a future opportunity, we are currently pursuing more profitable and potentially less capital-intensive options. In financial year 2018, we sold 7.1 million tons of fly ash. And last year, we sold around 7 million tons of ash. In the first half of financial year '20, we sold 3.9 million tons. Based on our current progress, we have secured sources to deliver an annual net increase just under 900,000 tons against our target of 1.5 million to 2 million tons. We are confident of closing the gap.

Our USG Boral JV formed in March 2014 with USG, it is a long-term organic growth platform for Boral. With Knauf's takeover of USG last year, we are now in JV with Knauf. Our key priorities for the business are to create value through strategic growth, including completing the transaction with Knauf. In August 2019, we announced plans to expand the joint venture in Asia, improving asset utilization, distribution and R&D support and with potential for around USD 30 million of synergies over 4 years. The deal with Knauf also includes Boral returning to 100% ownership of the business in Australia and New Zealand with a call option granted to Knauf to buy back its 50% share, subject to regulatory approval. We are currently awaiting regulatory approval to complete the full transaction, which we expect to occur in the second half of financial year '20.

The strategy is to continue to grow the business through product penetration and innovation while effectively responding to changes in cyclical demand and competition through improvement initiatives and capacity planning. Project Horizon delivered around $9 million of cost savings in the first half of financial year '20 with further savings of $10 million expected in the second half.

Let me now remind you of our outlook guidance for the full year, as we described it on February 10. As previously announced, we expect financial year 2020 EBITDA to be lower in all 3 divisions in financial year 2020. We expect full year property earnings of around $55 million to $65 million. We expect NPAT to be in the range of $320 million to $340 million compared with the restated financial year 2019 NPAT of $420 million after adjusting for the Windows misreporting. This guidance takes into account our first half results, together with lower-than-previously-expected earnings from the Windows business. It also takes into account a challenging start in the second half in Australia, where January concrete volumes were down around 30% year-on-year. This guidance is before the inclusion of additional earnings from the announced USG Boral-Knauf transaction and before the impact of the new leasing standard.

As I've outlined, we had an extensive number of initiatives underway to strengthen performance. In preparation to hand over to a new CEO, we are also taking a thorough look at the market outlook, competitive positions and earnings potential of each of our businesses to help expedite a portfolio review that the Board expects a new CEO to undertake.

On that note, I thank you for your attention. Ros and I will now open it up for questions, starting with those in the room first, followed by questions from those on the call. And as I mentioned, David Mariner and Wayne Manners are here also to answer your questions.

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Questions and Answers

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Andrew Geoffrey Scott, Morgan Stanley, Research Division - Executive Director [1]

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Mike, Andrew Scott from Morgan Stanley. I just want to ask a couple of questions on Australia to start off. First of all, can you let us know that the guidance you provided expects that Australia can grow earnings in that second half or to suggest not given the start, but just interested to say that. And then, Wayne, a question specifically for Wayne, just on the waterfall chart, you provided $30-odd million of cost-out delivered, but that didn't offset cost inflation. What's your expectation when we get the full $80 million? Can you actually provide -- see that providing a bottom line benefit? Or is it really just keeping cost inflation at bay?

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Michael Kane, Boral Limited - CEO, MD & Director [2]

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Wayne, why don't we start with you?

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Wayne Manners, Boral Limited - President & CEO of Boral Australia [3]

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Okay. So to the first question around the top line, what we're seeing is that obviously project delays, fires, weather, all impacting us. Too hard to tell at this stage. Certainly, part of our initiative around taking action of controlling what we can control is our actions around our sales people out there trying to drive to get more to the top line as best we can.

Regarding the $30 million to $80 million impact, the inflation is around the 2% mark. So the $30 million in the first half largely offset what we would see as inflation. We would see the second half offsetting more than that. So obviously, simple maths, right? But the -- nonetheless, we -- as of this morning, I was in -- every week, we have a steering co where 20 of Boral Australia's senior executives meet each week to drive out, to make sure we keep track of our excellence and improvement programs. And so far, it's still on track, which I think is a real credit to everyone in Boral Australia in these conditions when it's -- when we've had so much weather, both bushfires and now flood and rain. It takes a huge amount of effort to manage that on top of delivering on all these projects around cost-out and they've managed that incredibly well. So far, I can say that is well and truly on track to achieve at least that $80 million mark.

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Andrew Geoffrey Scott, Morgan Stanley, Research Division - Executive Director [4]

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And David, just for you on the -- probably a key disappointment in the North American business was Stone. So I know you've spoken about it a little bit on the call the other day, but if you could flesh out what you've seen there and why the weakness? And leading into that, you've maintained the $115 million synergy target. I think Stone's running at $7.5 million. It needs to get to $25 million. That seems like a stretch. So why the confidence there? Or is there a risk to that $115 million target?

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David Mariner, Boral Limited - President & CEO of North America [5]

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Sure. So I'll break it -- I'll give a summary of just Stone in terms of the half, and it's really volume related. And so the volume is down 10%. Mike alluded to Canada being soft, so that's market conditions; slight share losses in California, where we gained some share last year and then that's receded with large projects. And then just an overall, what we believe is a, shift in demand out of the manufactured stone category and into other cladding products. We've seen some of that being mechanically fastened, stone that actually travels through our Light Building Products. That's up double digits, so that's traveling well. But we've seen a broad intensity reduction in that Stone piece. So the volume really drove the Stone results. It drove our costs up, which is there on the costs slide because we couldn't recover the fixed costs, and it just -- it has decreased revenues altogether. So when we look forward, we've reinvigorated our commercial strategy around Stone to really attack the demand, so attack what goes on the wall and attack the project specifiers and try to drive demand through that. And we expect that to start coming through here in the next half. So the expectation is the volume will snap back up. As that comes back through, then the fixed cost absorption and the leverage effect will come into play, and that will be a good guy.

And then on the synergy piece, we're not giving up on the $115 million. Stone is obviously the largest laggard of the $115 million or of their part of the synergy work, and a lot of their volume -- a lot of their synergies are volume-related. So as that volume comes back, we anticipate the cost improvements that'll come back along with that. So that's one aspect. If I step back and just look broader at the whole $115 million, what lies ahead of us is really sales and procurement synergies. So that's the last piece, big piece. There's some head count reductions, some other things that are tied to IT. And as we collapse our IT systems, we can take out some back-office support staff. But the big drivers will be procurement in sales, and that's what lies ahead. And with the markets rising where they are, operational things that we've got to fix here in the short term and obviously correcting the Stone commercial piece, we're still confident that we can get to that target.

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Michael Kane, Boral Limited - CEO, MD & Director [6]

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I think I'll comment on the U.S. market. Right now, it's extraordinarily difficult, I think, for anyone to get a fix on what's happening with housing starts. We had -- we traveled through the first half of the financial year, housing starts roughly running in the 1.2 million, housing starts are hardly moving. And this has been a disappointingly low benchmark for the last several years. In December, it jumped 24%. Overnight, we saw an announcement 21% up in January. Permit's up higher. Now these are 2 historically low months, the winter months in the U.S., December and January. So it's difficult to extrapolate what that means for the full year other than we haven't had months like this in December and January since before the GFC. And so the amplitude of those movements is something -- it's a watching brief for all of us as to what the impact is going to be and particularly on the issue that David talked about, volume potential increases in the second half of the year. So yes, I'd just throw that out there as a caution. The U.S. has a tendency, you get 2 or 3 months out and the revised -- they'll backward make a revision on the December and January numbers. But so far, in the January numbers, there was very little revision in December. So I offer that out. We'll see how it evolves in the next couple of months.

And then with regard to Wayne, you come into January. I think there was some criticism last week when I said as we turned the corner, we saw some dire results in Australia. Well, that's what we meant by the 30% reduction in concrete demand in January. Now you don't expect that to continue. That was a function of the slow return to work after the holidays, the fires and the smoke. And then we quickly went into some pretty severe weather in early February. If you, by contrast, look at what's been going on in Victoria, where it's been dry, they're having strong volume months in Victoria right now. So the Australian market has the ability to snap back rather quickly in this regard, and we expect that it will. When you look at housing starts in Australia, there was a dramatic decline. But I think the good news is I think people are seeing a leveling out and that there's -- well, not everyone is on the same page. I think most people are on the page that says that housing in Australia is not going to probably go any lower, and that the opportunity is for it to come back. And that will be probably more pronounced in 2021, but I think we'll begin to see some evidence of that in the second half of the year.

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Daniel Kang, Citigroup Inc, Research Division - VP & Head of Chemicals and Packaging Equity Research [7]

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Mike, it's Dan Kang here from Citigroup. You mentioned about the dire second half start with the Concrete volumes down 30%. Just arguably, I guess some of the factors that drove that are now potentially behind us, hopefully. Are we seeing any evidence? Or is it too early to tell whether volume conditions have started to stabilize? Any evidence of signs of pent-up demand in energy?

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Michael Kane, Boral Limited - CEO, MD & Director [8]

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Wayne, why don't we let the -- the guy right on the front line want this answer of that question?

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Wayne Manners, Boral Limited - President & CEO of Boral Australia [9]

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Yes. Great question. And so Mike's point, right. In January, we saw that 30%. It's probably hard for people to understand the complexity around that. We just didn't see our clients come back with the smoke. We all saw it in Victoria. We saw it here in New South Wales and then rain in Queensland. And Mike's point is quite right. Come February, we haven't seen that. We've some rain in Victoria, nowhere near what we've seen in Queensland and New South Wales. So Victoria's having a great February. What we saw in early February when we didn't have the rain in New South Wales, the demand here was good, and we saw good volumes. So I don't have a concern about the demand. I don't have a concern about the pipeline of work we have at hand. It's just a matter of when it comes. So as I keep saying, we're doing an incredibly good job. I think the team, and in a tough environment, have managed what we can control, trying to win more volume to offset it. But when it's wet, doesn't matter what you win, you're not going to get that volume. We're already seeing in February it start to claw back as the rain has eased. I was incredibly grateful the other night. The thunderstorm only happened overnight, and then we're back to fine weather the next day. But nonetheless, there's -- we still have operational sites in New South Wales where we're cleaning up flooding issues and all those sort of things. So great for the dams, great for our farmers, has an impact on us, but I don't have a concern about our demand or our footprint.

Do we see that pent-up demand coming back in an accelerated way? Probably not. The market is such that -- as with housing and other -- of 23-odd percent and multi-res of 33%, that sense of urgency about coming back to work compared to a peak market isn't there. But nonetheless, the demand is coming back, and I expect we'll keep controlling incredibly aggressively what we can control to get back everything that we possibly can in the rest of this half.

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Daniel Kang, Citigroup Inc, Research Division - VP & Head of Chemicals and Packaging Equity Research [10]

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While you've got the floor, Wayne, and just on the $80 million full year target for cost savings, can you elaborate on where are you finding these costs, cost-out?

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Wayne Manners, Boral Limited - President & CEO of Boral Australia [11]

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Sure. I mean the -- so when we went into the first half, it was -- not too far into it, it became pretty clear that through multi-res that the demand wasn't there than we might have been hoping. We started to see some project delays. So it's coming from a number of streams. I'll give you some examples. Our procurement team, right now, we're going around site by site by site and renegotiating every contract with everyone. So now when you consider we've got 420-odd sites around Australia, we're obviously working our way through the biggest sites, and we're seeing some real value out of that cost control towers. So we're controlling every dollar in relation to everything, right, from flights to overtime, every ounce of spend within our business. And I think this is reflected through the fact that what you saw -- if you look at our underlying cash cost base in the first half of $1.5 billion, circa $1.5 billion versus last year of $1.6 billion, it shows that we're controlling what we can control in a down market. And as I said, every week, 20 of Boral's most senior executives meet, and we go through it line by line. And there are -- so there are hundreds of initiatives. There's no single area. We just went after everything. If you look at, for example, rightsizing OE, we made -- in FY '19, with the 300 roles made redundant, and there'll be around another 200 in this financial year. So if we don't have the volume or we have other impacts, we need to control our costs and that's what we're doing.

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Sophie Spartalis, BofA Merrill Lynch, Research Division - VP and Senior Resources Analyst [12]

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Sophie Spartalis from Bank of America. Just a follow-up question to those cost savings, Wayne. How sticky do you anticipate them to be over the coming sort of 12, 24 months? Because I understand, overtime sort of cutbacks, flight, all that sort of stuff, like that sort of stuff just kind of creeps in, right?

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Wayne Manners, Boral Limited - President & CEO of Boral Australia [13]

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So the directive to the team on these projects is they're all to be sustainable. Sure, we'll take one-offs when we can get them, and we measure each and every one-off that comes through. But that $80 million is all sustainable initiatives. They're not one-offs. So now if -- as you'd expect, if all of a sudden, in the years to come, things go incredibly well, then we would need to increase the head count to match that. But all of that $80 million are sustainable initiatives. We track everything from revenue to cost-down to cost avoidance. So yes -- so to me, that $80 million is very stickable in through the next year. And part of the things -- we talked about the site spend review. That is now just something we're going to do every month from here on. It's just going to be a rolling activity that won't stop at the end of this financial year. It'll just get going because you're quite right, the moment you stop doing it, you'll start to get your costs creep back in. So that's going to be a rolling program, and we've resourced the procurement team to make sure they continue to do that. And it's part of our ongoing DNA.

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Michael Kane, Boral Limited - CEO, MD & Director [14]

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Wayne, talk about head count reductions and the size and the impact of that.

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Wayne Manners, Boral Limited - President & CEO of Boral Australia [15]

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Sure. So as I said, head count, over these 2 years, we're talking 500 roles being made redundant. So that's -- our average cost of a role would -- we would say, would be around the $150,000 per person would be the average. So it's a significant impact, hence a significant item that was -- Ros talked about earlier. But again, we -- I need to be careful to say, those roles, they're not -- this is a very defined and strict process about taking out roles to make sure that it doesn't impact the ongoing sustainability and improvement of the business. So there are a lot of things through artificial intelligence and robots and all that sort of thing we're doing as well. Supply chain's taking out a number of roles. So they're all around sustainable ongoing improvement, not about just taking out role just to get a number, and then all of a sudden, the business suffers as a result. I don't know if that goes with it, Mike.

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Sophie Spartalis, BofA Merrill Lynch, Research Division - VP and Senior Resources Analyst [16]

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And then just a follow-up question. Just looking at the ROFE slide, Mike, you said yourself that it's well below where they need to be. Can you just maybe talk through what are the immediate plans to return that up to the cost of capital? Like I'd note that you've only really hit that twice since FY '12. So what are the actions that you need to do? Because if you sort of do business as usual...

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Michael Kane, Boral Limited - CEO, MD & Director [17]

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It's a combination of 2 things. One is the market has to participate in the recovery. So when you look at the housing starts across the U.S., what we've seen over the last almost 3 years has been an absence of growth in housing starts of any significance. And so the market started to recover around 2011, 2012 in the U.S. from a low 500,000 starts and worked its way up over 1 million and then elongated and has -- had stopped growing until what we saw happened in December. And so assuming some normal progression of a return of housing starts, and I think it was annualized -- it's annualized right now within the last 2 months about 1.5 million housing starts, so if we can see that step, we've now reached the 50-year average. And over the next several years, if that continues on a similar trajectory, then you can get to some pretty -- have a sizable impact on our -- the volumes and the fixed cost recovery that we have across our entire network. So that's one piece.

The other is what are we doing? And I've announced those today. What are we doing specifically over the -- for the next 6 months to deliver improved results in the North American business? And that goes to the lean work that we're doing in the Windows business to drive down inefficiencies, to take out waste, to improve yield in those plants. And we have a line of sight to substantially improve the margins in that business, and we're executing on that right now.

Secondly, when you look to a business like the Stone business, it's about a target, and they've got an internal target. And I'm on the phone weekly with David and his team going through these initiatives on a weekly basis, and they've got 1 million square foot of additional volume in Stone that they're targeting for the second half. And that's -- these are sales and marketing additions. They're not -- it's not plant efficiency issues there because the plants are running very well in the Stone business, but they need the volume for fixed cost recovery. And that's why we need to bring in that additional volume through marketing efforts. So each division has its own unique specific targets that we review on a weekly basis and make sure that they're tracking and that there's activity to deal with where the shortfalls have been. Now we've got businesses performing extraordinary well in that portfolio. The BCI business is growing faster than the Versetta business, which is fixed stone as opposed to -- a mechanically fixed stone as opposed to masonry stone. That's growing outside the market, substantially, above market demand, which tells you directionally where that business needs to move. It needs to move more and more to mechanically fixed and away from the masonry stone. So masonry-applied products, Bricks is the classic example in North America but it's now impacting intensity in the Stone business, is more of the past than it is in the future, having a lot to do with labor costs, having a lot to do with the availability of labor and the availability of skills.

And so each of those businesses -- and then, of course, you've got the Fly Ash business. Our Fly Ash business, we were up 10% on -- just looking at the chart, what's happened to the price of fly ash in the market in the U.S. since the Headwaters acquisition is extraordinary. We were seeing year-over-year 10% improvement in price and in addition a 5% improvement in volume. And so that business on the ash side is doing extraordinarily well.

And so each business has its own issues and its own pathway to improvement, but we're looking at it in 2 ways. One is what are we going to do to deliver a better result in the next half versus what we saw in the first half? And then secondarily, we're going to need -- in order to get the return on funds employed over the cost of capital, we're going to need improvement in housing starts in the U.S. to continue. Certainly, what we've seen in the last 2 months is encouraging, but -- and that's the first real sign in probably 5 years of a dramatic step-up. They went from 1.2 million housing starts in November to 1.6 million in December, and they've carried that into the next month at 1.5 million in January. So we'll see if that's a trend as we get closer to March-April.

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Sophie Spartalis, BofA Merrill Lynch, Research Division - VP and Senior Resources Analyst [18]

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Okay. And just one final question. USG Boral, the EBITDA saw strong growth in China. Can you just maybe give us an update given the second half with coronavirus?

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Michael Kane, Boral Limited - CEO, MD & Director [19]

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So we had a strong result in the first half, which has been impacted. Clearly, our operations in China -- our plants are not operating, and we're continuing to cover our costs. There's an expectation that either later this month or early in March that we can return to operations. But the impact on the Chinese economy clearly must be pronounced. Ours is a small exposure by comparison to a lot of other folks, but I could tell you that a significant part of our workforce is working out of their house. Even if we could get a workforce delivered to the manufacturing sites, we can't transport trucks across state lines until the government releases the ability to do that. So there's -- this coronavirus has had an impact throughout the Chinese economy. Ours is a small window into that. And we're expecting, as the month carries on, that there'll be more and more releases. So 2 of our 4 plants have been given a signal to go ahead and begin to start up operations. Now it's about getting people into the plant so that we can start those operations. So clearly, we've been affected in China. So the second half is going to be challenged in our China business. We haven't seen any significant interplay between that and the rest of the Asian markets. Matter of fact, I think we pointed out in one of the documents that the only evidence we have of impact outside of China is, for example, we have -- we're importing a kiln for our cornice operation in Brisbane in USG Boral from China, and the equipment is going to be delayed coming out of China. And similarly, we have some equipment going into the Geelong project out of China, and that equipment is going to be delayed. So those are the types of things that I think you'll begin to see outside of China as the roll-on effects of this coronavirus.

I think we'll go to the phone and take our first question from the phone.

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Operator [20]

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(Operator Instructions) Your first question comes from Brook Campbell-Crawford of JPMorgan.

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Brook Campbell-Crawford, JP Morgan Chase & Co, Research Division - Analyst [21]

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Just a couple of questions from me. Firstly, on fly ash, clearly, great progress on pricing over the last couple of years. But just interested on your thoughts, Mike or David, about the outlook for price increases in fly ash this coming year.

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Michael Kane, Boral Limited - CEO, MD & Director [22]

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I think we've announced that we expect 10% this year in fly ash. And that's pretty well locked in, David? And so year-over-year, we expect to continue to be able to move fly ash pricing at the 10% rate, double digits.

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Brook Campbell-Crawford, JP Morgan Chase & Co, Research Division - Analyst [23]

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Okay. Great. And just in Australia, just interested to hear your thoughts around imported clinker prices with movements in the currency. Are you starting to see those prices move higher? I understand you likely have contracts there. But any potential impacts for the balance of this year with higher import prices?

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Michael Kane, Boral Limited - CEO, MD & Director [24]

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Wayne, import prices of cement and are they moving on you?

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Wayne Manners, Boral Limited - President & CEO of Boral Australia [25]

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Sure. Thank you for the question. Yes, definitely, as part of our inflation process, the clinker prices have moved slightly higher. That's been factored into our outlook. So we manage that incredibly closely and negotiate those through our various suppliers. But yes, it's already been factored into our outlook, and we have seen some increase as per inflation around our clinker pricing.

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Brook Campbell-Crawford, JP Morgan Chase & Co, Research Division - Analyst [26]

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Okay. Great. And one final one, just on the Australian plasterboard business. Good job there, I guess, with earnings only slightly lower in a very soft market over the last 6 months or so. But I'd be interested to understand how performance trended through the half. And what sort of expectations you have for earnings for plasterboard in Australia in the second half?

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Michael Kane, Boral Limited - CEO, MD & Director [27]

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So I think if you consider the rather dramatic decline in housing starts in Australia during that period and the modest impact on USG Boral, I think that would suggest that we're fighting over our weight class and delivering better results in USG Boral. And I think that's a function of the quality of the technology that we deploy. I think there may be a little share gain in there around the patch. But I -- we have no expectation of a significant -- any significant decline. Part of it is we've also reached into the commercial markets outside of housing to expand our presence there, and that collectively has had the impact of muting the housing decline impact. And if you assume that housing has bottomed out in Australia, you've probably seen the bottom of USG Boral's performance in Australia in that first half. And we would expect if there's any improvement that will begin in the second half and be more demonstrated next year, you'll see a return in improvement of that Australia performance.

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Operator [28]

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Your next question comes from Peter Wilson of Crédit Suisse.

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Peter Wilson, Crédit Suisse AG, Research Division - Associate [29]

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If I could start with Australia. Just on cement and concrete, there's some negative pricing starting to emerge. Just wondering if I could get your comment, Wayne, on where you think that's going to go in the second half and then into next year.

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Wayne Manners, Boral Limited - President & CEO of Boral Australia [30]

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Okay. Thanks, Peter. So I think if you add that to the context of the residential down 23%, multi-residential down 33%, concrete volumes down 7%, generally speaking, cement and aggregates being steady like-for-like and concrete being down around 1%, whilst we'd always drive for more, I think it's a great outcome, and reflects the discipline and rigor we have around now our commercial excellence programs. We've announced 4 -- the 1st of April, concrete, I think it was 1% to 4%; aggregates -- cement, 2% to 3%; and aggregates, 2% to 5%. We're taking a very, very strategic and targeted approach to our cement and concrete and aggregate pricing process. The disciplines we have now through the use of our commercial excellence means the stickability on that is as good as it's -- or better than it's ever been. So how we go, I think, in the light of the concrete volumes that are forecasted in the market, it's still going to be a challenge for us. But what I have no doubt is the process we now have in place and what we saw in the pricing in the first half was a good outcome given the conditions, and I expect that to continue into the second half. So I don't know what it looks like yet, but it is going to be a challenge. But I think we've got the process to really respond to that challenge.

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Peter Wilson, Crédit Suisse AG, Research Division - Associate [31]

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And then, Ros, on the U.S. fly ash sales, revenue up 16%, EBITDA up. Can you give us an idea of the magnitude of that EBITDA increase for fly ash sales?

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Yuen Ling Ng, Boral Limited - Group President Ventures & CFO [32]

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I'm going to hand that over to David, actually, for fly ash.

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David Mariner, Boral Limited - President & CEO of North America [33]

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Peter, can you restate your question?

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Peter Wilson, Crédit Suisse AG, Research Division - Associate [34]

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I'm after the EBITDA increase for fly ash sales. So you have revenue, it was up 16%. I'm wondering how much EBITDA was up.

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David Mariner, Boral Limited - President & CEO of North America [35]

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All right. I haven't even back-calculated that, but I would say it's fairly small. It was positive. Our margins decreased period-on-period. Half of that was probably driven by the conclusion of large site service work, and the other decline in margin from a percentage standpoint would be due to increased costs across the marketable tons sold. So when you roll all that through, it was fairly small.

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Peter Wilson, Crédit Suisse AG, Research Division - Associate [36]

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Okay. Can you give any comment on the margin excluding the impact of the site services contract, i.e., just for the fly ash sales itself?

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David Mariner, Boral Limited - President & CEO of North America [37]

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That's the piece that I would say is fairly small in terms of the quantum of actual dollars. With rising costs, while we sold substantially more in terms of revenue, in terms of volume, the cost base went up due to increased costs around our supply chain efforts as well as some revenue share increases. And so that offset most of the gains in terms of the revenue. But it was still positive, just not as positive as we would have liked.

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Peter Wilson, Crédit Suisse AG, Research Division - Associate [38]

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Okay. Great. And then Slide 23, thank you for providing the extra detail on where you think you'll get the fly ash volumes. Can I just ask, so the target is 1.5 million to 2 million tons net of closures and reduced utilization of coal power stations. Can I ask what gross increase in supply are you targeting, i.e., what allowance are you making for further closures and further reduction in utilization of power stations?

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David Mariner, Boral Limited - President & CEO of North America [39]

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So what we know is the Navajo plant recently closed in December. And so we felt a little bit of that impact in the first half. That'll flow through. That total in per annum is about 400,000 tons. We don't have another closure that's upcoming until 2025, and that's a plant in Utah. So from a closures perspective, we don't have line of sight of any of that or immediate going to hit. In terms of lost contracts and gained contracts, that will play out over time. We've got plans in place to gain more contracts as they come up to bid. For those that we currently have that come up to bid, we've got a good process and a plan to retain those. So we don't anticipate losing every contract that comes up for bid or comes up to the end of the life of the contract. In most cases, we try to renegotiate and engage the utility prior to the end of those contracts, so that way we can extend the life of those and mitigate that. But we don't have anything to indicate that we're going to have a decrease in volume as we move forward that we know of today.

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Michael Kane, Boral Limited - CEO, MD & Director [40]

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So a good example is the Kirkland Mine as an offset to Navajo. So with Navajo dropping off 400,000 tons in that Southwest to California market, the Kirkland Mine at 500,000 tons of production will more than offset the impact of the Navajo plant.

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Peter Wilson, Crédit Suisse AG, Research Division - Associate [41]

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Is that Kirkland -- the natural pozzolan, is that a perfect substitute for fly ash, i.e., will you get the same price? Or do you have to actually establish a market and a price for that product?

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Michael Kane, Boral Limited - CEO, MD & Director [42]

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It's a one-for-one perfect substitute for natural fly ash.

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Operator [43]

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Your next question comes from Keith Chau of MST Marquee.

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Keith Chau, MST Marquee - Building Materials & Packaging Analyst [44]

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Just a follow-up on the fly ash question. We note the revenue step-up in the period. I think, Dave, you mentioned that margins or the absolute earnings level didn't increase by too much implies that it was quite a significant amount of cost that was absorbed in the business. I note, I think in the release, you were saying that fly ash costs were up $7 million. So I'm just wondering if you can help us bridge the gap between that and the ultimate earnings outcome. Because it seems as though your costs at least increased by $24 million in the period, and that's only factoring in the benefits from price increases alone. So I'm just wondering if you can give us a steer on what the increase in the royalty rate was -- the average royalty rate was? What the inflationary pressure was and then supply chain costs?

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David Mariner, Boral Limited - President & CEO of North America [45]

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So we don't -- we haven't and I don't think we're prepared to disclose an increase in the overall royalty rates. Our royalty rates range substantially depending on the contract. So we probably can't give you color on that. What I can give you color on is the combination of that royalty increase, along with the transportation costs to move the product to a farther distance, is the majority of that increase in the cost basis. And on top of that, when you look at the pricing, the pricing is geared with 10% up to offset and mitigate that. When I step back and I look at the overall margins of Fly Ash and when you look at the impact of these large projects that we had in the past, I don't want to overplay this, but they were very lucrative construction site service projects, well above our average site service work, which ranges in the mid-teens. They were north of 30%, 40%. So that really had an impact when those projects ended last year, and we didn't have a replacement for those this year. So that's really driven the decrease in the EBITDA margin from period to period, and that's probably the single biggest impact around that.

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Keith Chau, MST Marquee - Building Materials & Packaging Analyst [46]

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I think if you -- if we strip out the site services and just focus on the Fly Ash business in isolation, the EBITDA margin of that business, I think, was 21% versus 24% in prior years. So in some of the investor tours that we've had over the years and albeit at the -- it was probably earlier in the ownership of the Headwaters business, there's always been a comment that as Boral procures new sources of fly ash, the royalty rate would be adjusted such that the margin stays consistent. And at the investor tour in September last year, the Fly Ash margins were expected to be either flat on FY '19, if not expand. But certainly, at least the early periods since then, we've seen a bit of a deterioration. So just keen to understand whether the guidance of flat to up margins remains? And what's going to be the key impact of those margins going forward, if it's possible?

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David Mariner, Boral Limited - President & CEO of North America [47]

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Yes. So I would break that into 2 different buckets. I would say that the underlying cost of utility-sourced volumes, so these are the contracts, these are the domestic contracts that are historical and what we've had over time, the pressure on that, that cost will increase. The trends around the bidding process and the securing and the revenue-sharing piece, we've witnessed an increase over the past several years, albeit modest at times. So I think that will continue to uptick. But to combat that are the plans and the projects such as Kirkland, where we actually invest and where we're going after nontraditional sources. And the revenue profile or the margin profile of those projects, we've stated in the past and it remains today that we target mid-20s in terms of EBITDA margin. And the Kirkland is the first example of that where we'll comfortably fit within that profile. And as we get more and more volume coming from those type of sources at margins that are much more predictable, then we believe that we'll settle into that mid-20s range in terms of the marketable ash. Site service work is always -- it comes and goes. There's a baseline of work that exists. That is moving dirt, essentially. So it's not high-margin projects or high-margin work, and that obviously has an impact of the overall math equation when you look at the full division. But for the marketable ash, we are still targeting and maintaining that rough mid-20-ish.

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Michael Kane, Boral Limited - CEO, MD & Director [48]

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Talk about the Montour example as what that margin and similar projects that we're currently pursuing right now? Where that will shake out in that same comparison between the brokered ash and the more investment-oriented volume that we're delivering?

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David Mariner, Boral Limited - President & CEO of North America [49]

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Yes. So a brokered ash, you might have a revenue share, and I'll just pick a number of 35%. And so for every dollar we make, we give 35% away. For a Montour style or a Kirkland style, we pay a fixed cost per ton. And that fixed cost per ton is single digits, so $3, $4 a ton, and then we add value through whatever the processing and the manufacturing. And then for Kirkland and specifically, if we're paying a few dollars for the material and we're selling in the western markets where the pricing is $80, $90, you can quickly see how -- even if you add in the cost of grinding or drying or the other things that we do to improve the value, there's a big dollar amount in there that allows us to maintain and get the margins that we're talking about, and that was mid-20%.

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Keith Chau, MST Marquee - Building Materials & Packaging Analyst [50]

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And maybe just a follow-on from that question. The proportion that's investment-based at volumes at the moment relative to brokered volumes, just wondering if you can give us a split of that, please.

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David Mariner, Boral Limited - President & CEO of North America [51]

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The majority of it is brokered volume today. Really, Montour will be the only one.

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Michael Kane, Boral Limited - CEO, MD & Director [52]

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Montour is the only example of the first reclaim activity and over the next couple of years is when you're going to see Kirkland come on line as well as our second and third ash reclaim mining exercise. But this is going to take time. This is about changing the business from a brokerage in effect to a manufacturing business, where we are, for the first time, in the history of this industry, going to be able to produce ash to meet demand as opposed to take ash that is produced and find a home for it.

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Keith Chau, MST Marquee - Building Materials & Packaging Analyst [53]

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And David, perhaps just one last one for me and a follow-on from Pete's question. As you plan for this business going forward, are you basing the closures of the EIA's short-term forecast? Or is it -- do you have a better line of sight than what you see from that resource?

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David Mariner, Boral Limited - President & CEO of North America [54]

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We use that. We use intel from the field. Unfortunately, many of the utilities don't forecast unexpected closures. We actually had a couple of those happen recently in Illinois, where the utilities just determined that economically, they were going to close these sites down. Thankfully, they weren't enormous volumes. But we do get a line of sight for some of them, but EIA is the best -- probably the best public indication in terms of what to expect in the future.

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Operator [55]

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There are no further questions at this time. I will now hand back to Mr. Kane for closing remarks.

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Michael Kane, Boral Limited - CEO, MD & Director [56]

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Well, thank you, everybody, on the line and in the room for your questions. And hopefully, our answers were helpful, and have a good day.