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Edited Transcript of ELM.L earnings conference call or presentation 4-Mar-20 9:00am GMT

Full Year 2019 Elementis PLC Earnings Call

Staines Mar 27, 2020 (Thomson StreetEvents) -- Edited Transcript of Elementis PLC earnings conference call or presentation Wednesday, March 4, 2020 at 9:00:00am GMT

TEXT version of Transcript

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Corporate Participants

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* James Curran

Elementis plc - Director of IR, Strategy, M&A

* Paul Waterman

Elementis plc - Group CEO & Executive Director

* Ralph Hewins

Elementis plc - Group CFO & Executive Director

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Conference Call Participants

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* Andrew Gregory Stott

UBS Investment Bank, Research Division - MD and Research Analyst

* Chetan Udeshi

JP Morgan Chase & Co, Research Division - Research Analyst

* Dominic Convey

Peel Hunt LLP, Research Division - Analyst

* Kevin Christopher Fogarty

Numis Securities Limited, Research Division - Analyst

* Margaret Rose Schooley

Stifel, Nicolaus & Company, Incorporated, Research Division - Analyst

* Sebastian Christian Bray

Joh. Berenberg, Gossler & Co. KG, Research Division - Analyst

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Presentation

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James Curran, Elementis plc - Director of IR, Strategy, M&A [1]

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Good morning, everyone. Welcome to the Elementis 2019 Results Presentation. Sorry about the delay getting in, but glad you're here with us today.

As usual, please note the cautionary statement on Slide 3. And without further ado, I'll hand over to Paul Waterman, the CEO of Elementis.

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Paul Waterman, Elementis plc - Group CEO & Executive Director [2]

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Thank you, James. Good morning. Welcome, everyone. Thank you to those of you who are here with us in the room in London and those who are listening online.

In terms of the agenda for this morning, I'll start with 2019 highlights on performance. Ralph will cover group financial performance. And then I'll take you through the outlook and our medium-term priorities. Following that, we'll be happy to take your questions.

While global GDP grew modestly in 2019, the industrial space was much more challenged, primarily as a result of ongoing international trade disputes that reduced industrial activity. Across most regions, manufacturing PMIs gradually declined throughout the year, reaching their lowest level in the U.S. since mid-2009. Weakness was apparent in key demand sectors such as auto as global vehicle production declined 6%, and this triggered destocking in the supply chain. This created a very challenging backdrop for industrial end markets.

We responded to this demand environment with continued self-help actions to optimize our performance, including $10 million of cost savings, securing $25 million of new business and additional working capital reduction. Looking at 2020, we see new -- no change in this dynamic. We expect markets will remain challenging, particularly now with the impact of COVID-19, and we'll continue driving our

self-help agenda of additional cost savings and new business. As a result, we have a cautious outlook and expect stable group performance.

While short-term trading will continue to be impacted by external factors, our medium-term focus, as outlined at the Capital Markets Day in November, is unchanged. With Personal Care, Coatings and Talc now representing over 80% of our profitability, we have a solid platform and a product portfolio focused on premium additives. Under our innovation, growth and efficiency agenda, we have clear strategic priorities and executing on these will enable us to deliver our medium-term performance objectives of 17% operating margin, operating cash conversion of at least 90% and financial leverage of under 1.5x.

I'll kick off with safety. At Elementis, we always want to make sure that everyone goes home safely to their families at the end of each day. Over the past few years, we've made good progress on safety. The line graph is a 2-year moving average of our recordable incident rate, and it shows that injury frequency is declining at Elementis. This improvement has been driven by investments at plants to mitigate risks, new safety performance management tools and a more systematic approach to training. While we're getting better, there is still more to do. In 2019, we had 7 recordable injuries. Now these injuries were relatively minor, a strained back, a smashed finger, but they're painful, and they can be prevented. And any number higher than 0 is too many. So going forward, we'll continue to invest in our people and our assets to further improve our safety performance.

As a global company, we recognize that the products we make and the process we use to make them have an impact on the wider environment. We're committed to reducing the energy intensity of our operations, and through our ongoing efforts, we're proud to be externally recognized. For example, we received the Silver rating under the EcoVadis program, and in that category, we're in the top 5% of global manufacturing companies.

Our operational and product development processes are determined with sustainability in mind. For example, our new India plant will be a 0 liquid discharge site. As we drive product innovation, we ensure that we're 100% focused on developing products that deliver sustainability benefits. This serves not only our customers, but the world's consumers who now demand cleaner and better products.

In Personal Care, our natural hectorite clay is an attractive alternative to synthetics. In Talc, our products help reduce the weight of vehicles and thus lower emissions. And in Coatings, our innovative additives facilitate the transition from solvent to waterborne formulations. In 2019, our overall GHG emissions reduced by 21% due to improved energy efficiency, portfolio divestments and the positive impact of sustainability investments taking place across the group.

This is good progress, but we need to do more. In 2020, we intend to share our core sustainability goals. These will enable us to quantifiably measure our progress over time on energy efficiency and the reduction of GHG emissions, water usage in operations and chemicals and nonrecyclable waste.

Although the market backdrop has been challenging in 2019, we've made notable progress against our 3 strategic pillars of innovation, growth and efficiency. On the innovation front, we've launched several new products that meet the needs of our customers. In Coatings, our new RHEOLATE HX series delivers premium product characteristics to decorative coatings, such as one coat hide and enhanced stain resistance. Our SUPREAD range of defoamers enabled the transition from solvent to waterborne industrial coatings. And in Personal Care, the reaction to our BENTONE LUXE and BENTONE HYDROCLAY skincare ingredients has been fantastic.

In terms of growth, we also made some progress. The Talc business performed well in a tough environment. We completed the integration, and we're making good progress on revenue synergy delivery. Our Coatings transformation program is now complete. With a focus on quality growth, $9 million of new business was secured in 2019, ahead of our expectations at the half. Increased penetration of key accounts of our new products drove this success. In addition, our high-margin Cosmetics business continued to grow, supported by continued momentum in emerging markets.

Turning to efficiency, we identified and implemented $10 million of cost savings through manufacturing efficiencies, headcount reduction and lower discretionary spend. Our AP actives plant in India is under construction with start-up planned for the second half of this year. This will significantly lower our manufacturing costs and avoid tariffs.

Last, we made substantial progress digitizing Elementis by leveraging global applications, such as Salesforce, Workday and Smartsheet, to improve sales excellence, people management and project execution.

Turning to 2019 business performance. Personal Care revenue declined 4% on a like-for-like basis, with continued growth in our high-margin Cosmetics business, offset by short-term challenges in AP

actives. Our adjusted operating profit declined for 2 reasons: first, our strategy to accelerate AP actives volume growth via more competitive pricing; and second, the negative impact of tariffs on key raw materials that reduced our profits by about $4 million.

Cosmetics achieved 4% organic sales growth, a good performance considering the mixed market environment, particularly in North America and Asia. Sales in Latin America and China increased 26% and 11%, respectively, due to our continued focus and investment in emerging markets. While this is very good growth, we have quite a small base of business in these regions, so a lot of growth runway remains. Sales to direct customers also performed strongly with 10% growth.

We experienced good growth with customers such as Unilever, Coty and Estée Lauder. This is also partly due to our decision to shift a few key customers from a distributor to a direct relationship. This shift enables us to have a closer relationship, which better supports future growth and also improves our margins. Whilst we'll never be 100% direct, we will continue to optimize our direct-distributor balance over time.

And finally, there's an increasing pull from consumers to buy Cosmetics with clean and natural ingredients. This is a strong tailwind for our natural hectorite clay-based ingredients. And in 2019, we delivered 7% growth versus prior year. Our recently launched skincare products play into this theme and are opening up a new market for our Personal Care business.

In AP actives, while tariffs materially impacted our financials, we're taking actions to improve future performance. First, we have strong global key account management relationships and can serve our customers across the world. This, combined with our pricing strategy, saw volumes materially recover in the second half of 2019 versus prior year. Second, our new manufacturing site in India will be a game changer. We're investing approximately $20 million in this facility, which will start-up towards the end of this year. We intend to produce approximately 70% of our AP active volumes at this plant. This will ensure we have an extremely low-cost global supply chain. It will materially reduce our exposure to U.S. tariffs, and it will support our growth ambitions in Asia, where the antiperspirant category is growing fastest.

And third, antiperspirant innovation is critical to long-term success. Our customers look to us to develop innovation that will support the launch of superior, distinctive new products. For example, in 2019, we launched an exciting high-efficacy ingredient that delivers 72-hour sweat protection and reduces bacterial growth. We have a strong pipeline of innovative new products, focused on improving end product performance, lowering operating costs and improving sustainability.

In Coatings, excluding the impact of currency and the Surfactants exit, our sales were down 8%. This was driven by weak industrial coatings demand and some destocking early in the year, particularly in Asia. Demand in Europe and the Americas also declined versus prior year, but at a much more modest rate. Sales to our global key accounts declined 4%, a reasonable result given the market backdrop. And overall, new business growth of $9 million was encouraging.

Now while the market backdrop has been challenging, our Coatings transformation helped deliver strong earnings resilience, as I'll explain shortly. In the second half of 2019, earnings rose 8% from the prior year and margins reached 15.6%. Whilst Coatings' demand will fluctuate, driven by macro conditions, we are focused on what we can control. Our global Coatings transformation is complete and as a result, we're now in a much better position to grow. Following our product rationalization, we have a portfolio focused on high value and differentiated technologies. These have been supplemented by 7 new product launches in 2019 that support our growth areas of premium decorative, waterborne industrial and hybrid adhesives and sealants.

Second, in 2019, we actioned a program to consolidate our route to market. In China, we moved from 6 distributors and over 20 sub distributors to a 1 level distribution channel that will closely complement our direct sales model. This is a simpler and more efficient approach that will better support our growth ambitions. We expect this to deliver tangible benefits in 2020 and beyond.

And finally, we delivered $4 million of cost savings. This was driven by headcount efficiencies associated with the move to a single global Coatings team and lower spend on areas such as warehousing and logistics. Improving margins from 14.5% to 15.1% in a year where revenue declined 8% is a testament to the improved quality of our Coatings business, and we're now well positioned to benefit from any upturn in demand conditions.

Turning to Talc. We continue to be very excited about this business. We've managed to integrate Talc within 1 year of ownership. The business has performed well in what has been a very challenging demand environment, and I'm confident of our ability to deliver future growth. In 2019, sales rose by 1% on a constant currency basis to $151 million, with $7 million of new business wins offsetting a challenging market backdrop, particularly in plastics and paper. The 11% operating profit increase was primarily due to the delivery of cost synergies and a favorable mix impact from continued growth in industrial talc.

Looking at our performance in more detail. Constant currency sales of industrial talc grows 4% year-on-year. Sales of talc additive for use in long life plastics declined 4% as global auto production fell 6% in 2019. Our performance was supported by both new business wins and increased share at established customers. To grow share, we gained qualification into a multinational's global headquarters by winning on consistency and quality. Then after demonstrating what we can do, we grow into the global network of that business. This strategy has served us well to date as we've expanded our share in long life plastics from 4% in 2015 to 7% today, and we see this growth continuing as we further penetrate the Americas and Asia.

The decline in plastics was offset by 5% sales growth in Coatings and 13% growth in other diversified applications. In Coatings, we captured $2 million of new business opportunities, driven primarily by early delivery of revenue synergies. In regions such as South America and Asia, we leveraged Elementis' global footprint and existing customer relationships. In other diversified applications, technical ceramics was the primary growth driver. Here, we supply Talc as a key component in the manufacturing of the chloride ceramic body that supports the catalyst. In 2019, we grew by 39% by gaining share at existing customers and adding new business in Asia.

Talc is an increasingly global market with customers who demand product that can meet very specific specifications consistently anywhere in the world. As a consequence, our Talc resource location in Finland, which has historically served nearby paper markets, our geographical focus has really been centered on Europe. In fact, Europe still accounts for more than 80% of our business. The Talc business is now making strong inroads into markets outside Europe as we leverage both our logistics hub in Amsterdam and Elementis' global customer and distribution relationships. In Asia, our sales increased by 36% year-on-year, supported by strong progress in both long life plastics and technical ceramics. And in China, our sales rose 46% versus the prior year. This progress outside Europe is from a low base, and we see much more runway for growth.

If we take a step back, it's clear that we're continuing to deliver on a long-term transformation of the Talc business. Over the last decade, the business has increasingly focused on serving faster-growth and higher-value industrial applications. The track record speaks for itself as industrial sales have grown at an 8% compound annual growth rate over the period and now represent 83% of the business. Looking forward, we see continued growth momentum for industrial talc as part of Elementis.

Turning to our Chromium business. Revenue declined 7% to $171 million, reflective of a weak global industrial demand environment, particularly in the second half of the year. Demand from users in areas such as automotive parts, industrial machinery plating and refractory was notably weak. Pricing also suffered in the second half of the year, primarily outside of North America as competitors became more aggressive pursuing volume in response to lower demand. In North America, our pricing was solid, reflective of the unique product handling advantages that we offer customers in that geography. As a result of both weaker utilization and pricing headwinds, margins were just under 11%.

Before moving on, it's worth making a few points about our Chromium business. First, global industrial utilization was down. We estimated average 80% in 2019 as compared to 90% in 2018. That negatively impacted our business outside North America. However, we maintained an extremely strong and durable competitive position in North America. We're the only producer of chromium chemicals in the region, and we have a proprietary distribution system -- delivery system that materially reduces our customers' handling of these chemicals. And as a result, we hold a 70% market share in North America, and our contribution margins have been remarkably stable over time.

In addition, Chromium generates high return on capital employed. Even last year, which was the worst year since 2009, our return on capital employed exceeded 15%. And it is very strong cash generation as operating cash flow conversion is over 90%. And so while in the current environment, there are headwinds, the fundamental characteristics of this business are intact.

And finally, like Chromium, the Energy segment had a tough year as a result of weakening market demand, particularly in the second half. Revenue for the year fell 14% as $4 million of new business wins in the Middle East and Central Asia were unable to offset weak drilling conditions in North America, our largest market. Drillers suffered from reduced financial support and lower oil price as the year progressed. As a result, the U.S. rig count fell 18% in the second half. With lower volumes and somewhat weaker product mix, adjusted operating profit fell to $4 million.

Now I'd like to turn it over to Ralph to cover our group financial performance.

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Ralph Hewins, Elementis plc - Group CFO & Executive Director [3]

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Well, good morning, everyone. So turning to group revenue, whilst this rose 6% on a reported basis, excluding the impact of acquisitions and ForEx, like-for-like revenue declined by 6%. This decline was almost wholly driven by weak volumes, reflective of cyclical downturns in Chromium and Energy, short-term competitive pressure in AP actives and industrial demand weakness in Coatings. Pricing improved across the group, reflective of the specialty nature of the vast majority of our product portfolio.

Looking at group adjusted operating profit, this declined by 7% on a reported basis, 18% on an underlying basis, with volume weakness offset by $10 million of cost savings. Now on cost savings. With challenging demand conditions, we've implemented a range of self-help actions. These include reducing staff and discretionary costs and rationalizing our sales offices. In addition, in our supply chain, we reduced shifts to lower manufacturing costs and eliminated a number of warehouses. As outlined at the CMD, we have a number of additional efficiency initiatives in progress that will deliver $15 million of gross cost savings by 2023.

In terms of our structure, the recent addition of AP actives and Talc, 2 material businesses, led us to examine how we operate around the world. Applying a systematic approach, we look for opportunities to streamline, reducing layers and increasing spans of control. This exercise resulted in around 100 role eliminations that will help deliver $5 million of organizational savings in 2020. A further $10 million of efficiency gains by 2022 is anticipated to come from our global supply chain. The main areas of improvement here are our new India location, volume reallocation within our footprint and procurement.

Now a hallmark of Elementis is our strong cash flow generating capabilities. In 2019, our operating cash conversion was 130%, reflective of progress on our working capital delivery and disciplined capital expenditure. Net debt reduced from $498 million in 2018 to $454 million at the end of 2019. And bear in mind, in the first half, we had a $29 million of one off cash items that related to a historic Talc tax case and a Surfactants commercial settlement. Despite this, we delivered over-the-year cash generation of $44 million, with $54 million coming in the second half.

And looking at our cash flow profile in 2019, we generated $122 million of underlying free cash flow, of which $49 million was paid as dividends, $29 million were the one-off items that we do not expect to repeat and $44 million was used for net debt reduction. We've got a very cash generative model, and we're confident in our ability to continue to reduce our debt level even in tough trading conditions.

Moving on to tax. Our underlying tax rate was 22% in 2019, in line with our guidance. Our cash tax was significantly less as we utilized our ACT deferred tax assets as well as net operating losses. In 2020, we expect our cash tax to converge with our P&L rate.

Now let's look at CapEx in a bit more detail. Now whilst control over the total spend is important, a key factor is the composition of the spend. Today, we're allocating close to half of our CapEx for growth and productivity projects compared to just 25% a few years ago. This mix improvement has been enabled by changes to our portfolio, namely the disposal of assets, such as Delden, Jersey City and Changxing, which together absorbed over $10 million of CapEx a year, and nearly all of it's spent on maintenance and compliance.

Now what are our priorities on CapEx in 2020? Well, we plan to invest $45 million in our business. The AP actives plant in India is a key strategy enabler that will absorb around $10 million of the spend. In Finland, we're investing in a new ball mill to improve the reliability of our Talc processing facilities. And in Newbury, our hectorite mine, we're automating our hectorite assets to improve efficiency.

Turning to working capital. We've delivered $11 million of savings -- underlying savings in 2019, building on the $12 million achieved in 2018. Now a large part of this delivery is a result of reducing the complexity of our operations, primarily in Coatings. In addition, we have standardized service level agreements, which mean customers adhere to minimum order quantities and lead times. And improved demand planning means we are producing the right products and the right amounts at the right time. We've introduced a statistical demand planning model using tools such as Demantra. These systems allow us to triangulate customer demand, inventory levels and our production capabilities in a much more efficient manner. And the next step is to link our global supply chain systems with our new commercial website and Salesforce CRM. These will drive further working capital savings in 2020 and beyond.

Turning now to capital allocation. As explained, we're confident of our ability to generate cash. So what are our capital allocation priorities going forward? First, with CapEx of around $45 million in 2020, we will invest organically to grow our business, as I've already indicated. Second, we have a clear shareholder return framework. Our policy is to pay a progressive dividend, normally with a cover of at least 2x, and we will seek to make additional returns once net debt is structurally below 1x EBITDA. We're completely focused on debt reduction. We see a clear path to get to under 1.5x leverage, while simultaneously investing in growth and paying progressive dividends. To avoid any doubt, 1.5x is our medium-term ambition, and we intend to go beyond that, so that we are in a position to consider additional returns.

And with that, I'll hand it over to Paul.

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Paul Waterman, Elementis plc - Group CEO & Executive Director [4]

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In terms of outlook and priorities. Our performance in 2020 is a little more difficult to assess given the rapid onset of COVID-19.

Just a couple of points about COVID-19. At this point, no Elementis employees are among those infected by the virus. In China, our sales offices have reopened as have our production sites. China represents about 15% of our group sales. Three of our production plants from China and all are running at 100% utilization at this time. So while we're managing the impact so far it's difficult to know how the next few months will play out as it will depend on spread and the severity of the virus and the resulting impact on economic activity. Therefore, we'll continue to monitor the situation closely and provide additional updates when the situation is clear.

And so now, I'd say the following. In Personal Care, we see continued progress in our high-margin Cosmetics business and continued volume growth in AP actives ahead of the India plant start-up. In Coatings, we anticipate a broadly stable demand environment with progress driven by our focus on delivering new business opportunities and new products. In Talc, we expect further industrial growth with momentum and revenue synergy delivery. In Chromium, given the weak demand environment, we anticipate performance to be somewhat down in 2020. And finally, our Energy performance should be consistent with 2019.

In summary, we anticipate 2020 will be a year of continued strategic progress and stable financial performance. And while in the short term, the external environment is uncertain, we're focused on the execution of our medium-term strategic priorities. Personal Care, Talc and Coatings represent 80% of our products. These are premium performance additive businesses. The value chains across these businesses are similar as we transform advantaged hectorite and Talc resources into high-value additives via distinctive processing capability, formulation and development expertise, consistent product quality and very high levels of customer service support.

Taken together, what we do ensures that our customers and products perform better, and this is what we mean when we speak about enhanced performance through applied innovation. We believe each of these businesses offer good potential for growth. In Personal Care, we have a great potential to grow in Asia, penetrate the skin care segment and innovate in AP actives. In Talc, we'll globalize this business and further penetrate long life plastics and the technical ceramics segments. And in Coatings, we're now repositioned as a nimble global supplier, focused on providing distinctive new products that improve end product performance, enhance sustainability and lower our customers' operating costs. This is a business portfolio that can deliver growth.

Our focus on innovation, growth and efficiency translates into clear medium-term performance objectives. First, we expect operating margins to improve to 17%. We anticipate our already strong levels of operating cash conversion to remain over 90%. And finally, we expect our cash generation profile to take us under 1.5x net debt to EBITDA. These ambitions are unchanged from our November Capital Markets Day, and we'll remain intensely focused on their delivery.

Thank you for listening. And now I'd like to take your questions.

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Questions and Answers

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Margaret Rose Schooley, Stifel, Nicolaus & Company, Incorporated, Research Division - Analyst [1]

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It's Maggie, Stifel. Maggie Schooley from Stifel. I had 2 questions, if you would entertain them. And the first and -- I see that there's been several strikes in paper in Finland -- in the paper industry in Finland. Could you give any update as to how you think that will affect the business in the first quarter? Or if new business wins will far outstrip some of the weakness driven in the paper segment?

And then the second question is, within Chromium, what near-term margin levels do you think you can achieve, given that your guidance, you expect a weaker performance in '20? And do those assumptions apply any further cost initiatives? And can you give us an update on what those might be? And then in the medium term, what do you think a realistic margin for chrome could be?

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Paul Waterman, Elementis plc - Group CEO & Executive Director [2]

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Okay. On the Finland -- the paper strikes in Finland, they knocked out production for 3 weeks. So quite honestly, we're still kind of determining what the first quarter impact will be. But we're definitely feeling it in the paper business. And it's a little bit of an open question as to how quickly that will come back, i.e., will it get made up in the second quarter and beyond? But we definitely -- we saw -- in January, we saw about $300,000 negative impact of this strike. But we'll see how that gets managed. They are all back to work though, and everything is kind of back to normal, but we definitely did feel that.

On Chromium, I think I'll start, and Ralph can jump in here. I think the margin levels in 2020 are likely to be fairly consistent with what we saw this year. But we're not standing still on the Chromium business. We're doing a bunch of work on manufacturing efficiency that is going to play out through the middle of this year. So we're going to do kind of all we can to make sure that the cost of manufacturing kind of represent the environment that we're in as well as drive continuous improvement so we can lower the cost base.

In the medium term -- I mean, the reality is that if industrial demand turns quickly, margins in Chromium can turn very, very quickly. And so our aspiration probably would be to get to a margin level that more represents the performance that we saw in Chromium in 2017, '18.

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Ralph Hewins, Elementis plc - Group CFO & Executive Director [3]

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Yes. I think if you go back last, sort of, 9 years or so, there was a period of time, '13, '14, '15, where this business was making $50 million a year approximately. Then it got to a period where it was making $26 million, $33 million, $30 million a year, over '16, '17 and '18, and then it dropped down to $18 million in 2019. So I think it's -- the conditions that you would need to get back to $50 million would be a weaker U.S. dollar, a tightening of supply and demand in terms of global utilization and reasonably favorable chrome ore prices. So I think it's unlikely to see those conditions occur in the next few years.

That said, what we have observed with Chromium is that things can move really quite quickly. So a plant can be shut down somewhere in the world, exchange rates can move, demand can actually shift quite quickly. So I think it's reasonable to expect the margins in 2020 to be a little bit better than the second half margins in 2019, but probably between there and the first half margins. And over the medium term, I think they should recover, but it's really difficult to predict that. So I think that's where we are.

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Paul Waterman, Elementis plc - Group CEO & Executive Director [4]

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Kevin?

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Kevin Christopher Fogarty, Numis Securities Limited, Research Division - Analyst [5]

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Kevin Fogarty from Numis. A couple for me. Just in terms of working capital, obviously, very good performance during the year. Could you just give us a bit more detail on the measures you're taking there? And why that gives you confidence that this improvement is sustainable as you go forward?

Secondly, on Talc, obviously, better performance in certain sectors. Could you give us a little bit more granularity on why you think it's sort of successful than the other industrial segment? Why are you winning there? And just finally, I appreciate the backdrop, it's pretty clouded in terms of COVID-19, et cetera. But in the event of the economic environment becoming more challenging, what sort of measures do you think you've got, or at least you could take, to preserve the profitability or cash generation?

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Paul Waterman, Elementis plc - Group CEO & Executive Director [6]

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Ralph, do you want to take the measures and the working capital, and I'll take Talc.

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Ralph Hewins, Elementis plc - Group CFO & Executive Director [7]

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Yes. So on the working capital, we saw -- our working capital fell by around about $30 million last year. Around 2/3 of that was in inventory. And a significant proportion of that was down to a sustainable improvement as we worked towards our $30 million target. The principal driver of that in 2019, having simplified our portfolio a lot more in 2018, was around demand planning. So that's making sure that we're clear about future levels of demand, particularly on a sort of 3-month basis. We're clear about what products we make to order and what products we make to stock, and that affects both our raw materials and also our finished goods inventories.

So -- and I think, particularly in the Coatings business, now we've got this simplified product portfolio and we've got a much better grip on what the demand is coming down the line, we're able to optimize our working capital. We think there's another $7 million to come, principally from inventory in 2020, and we're actually looking, as I indicated, to extend some savings beyond that. We haven't yet quantified that.

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Paul Waterman, Elementis plc - Group CEO & Executive Director [8]

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I'll just add a couple of quick things. The reason why the changes are sustainable is because we've made structural changes to how we operate. So the customer service levels are standardized, and they weren't 3 years ago. That made a big difference. We -- there's an awful lot of SKUs we do not keep in inventory, we do made-to-order. In the old days, it was -- all of it was in inventory. And I would tell you, we're not stopping at $30 million. As the network continues to optimize over time, we're going to continue to make more progress on working capital.

On Talc, granularity around why we're winning in industrial. I think the macro point on this is that because of the quality of the product and the consistency of the product, if you have 20 or 30 locations around the world, and you need your Talc to hit a very specific spec, a commodity player in Asia can't do it, but we can do it. And so we're getting into the premium high-end applications, and we can service them and still make very high margins. We see it in plastics as we're building out a representation at the big plastics players. Certainly see it in technical ceramics. We have a very good relationship with the leading player, which has actually given rise to new business with other catalyst players in China that are emerging as well as another catalyst player in the United States now who wants to do work with us. So it's really the consistency of how you can deliver on the applications that makes the big difference.

The other thing I would say is the fact that it's been a sort of Euro-dominant business, Asia and Americas are all to play for it. And we're seeing really great opportunities, particularly in the Americas right now. So now that we have the infrastructure, the Elementis infrastructure, we're building out the sales force. Our opportunity to grow and expand regionally is really, really significant. You have to remember, we only have 11% market share. We're pretty far away from world domination. So that's what I would say about what's happening in the Talc business.

And the last question was around measures if the economic impacts are way worse than we think. Do you want me start that or do you want to do it? All right. Look, we're managing the business really, really tightly as you can see, okay? The organizational restructuring in the fourth quarter triggered $5 million of cost savings. We are hard at work on our supply chain. We've put ourselves down for $10 million by 2022, and I will tell you that there's more. But in the near term, in terms of economic impact, I think we're really quite tight on our cash. And if we had a -- hypothetically, a massive disappointment in the second or third quarter because of this coronavirus, we have plenty of resilience in terms of how we run the business to offset any economic disappointment.

This is what I would say. I mean, Ralph, you can talk to the specifics if you want. But we are on that in a very, very purposeful way. Andrew?

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Andrew Gregory Stott, UBS Investment Bank, Research Division - MD and Research Analyst [9]

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Paul, Ralph, Andrew Stott from UBS. I've got a few, actually, sorry. Let us start with a bigger picture one on the guidance. So I'm very mindful of the fact that Q1 last year was exceptionally weak in EBIT terms. So I'm just trying to explore the word solid, what does that mean? And so better to understand what you might need in terms of growth for the rest of the year.

Secondly, going back to Talc, I was really intrigued, impressed by the leverage. So you have 1% sales growth, you have 11% EBIT growth. Is there any metal sales in there that's helping that leverage? Or is that like-for-like on EBIT?

And then the final question was on cost saves. Ralph, you said $15 million, I think, by 2022. What's the number for this year, please?

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Ralph Hewins, Elementis plc - Group CFO & Executive Director [10]

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Well, let me take a couple of those questions, maybe in reverse order. So we think we'll make -- of the $15 million cost savings, the $5 million related to the organizational cost savings should come through in 2020, Andrew. I think the $10 million related to the supply chain are over the medium term, so by 2022. So I think we're looking very much to get the fund. Frankly, we've taken steps to eliminate 100 roles, so that's a number we're fairly confident of accomplishing.

In terms of your question about are there minerals and nickel and the byproducts? It's not had a big impact 2019 versus 2018. It's less than 10% of the sales of the Talc business. Obviously, there's always a slight movement from year-to-year, but that's not the driving factor. What I'd point to you in terms of the earnings growth is the cost synergies we've accomplished really quickly in Talc. It was a tightly run business, but we were able to eliminate a number of roles as we've plugged basically a stand-alone Talc business into the Elementis organization, and that's what really drove the earnings improvement.

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Paul Waterman, Elementis plc - Group CEO & Executive Director [11]

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Yes. In terms of the first question, Andrew. In terms of when we say solid, I mean, the first quarter is kind of coming through as we expected it would come through. The only exception, I think, would be Chromium, where because of the reduced industrial activity in China, we are seeing that being a little more like a continuation of the fourth quarter. But other than that, we're actually pretty pleased with where we are at this point.

I think we're comfortable with the consensus, full well knowing, though, that how this virus situation plays out is a little bit of a question mark. And I think as we put our plans together, we did not make any assumptions about tailwinds. We made assumptions around self-help in a continued environment that would be difficult. And so launching 20 to 22 new products, our targets for new business development, we did $25 million last year, we'd like to do more this year.

And how we're getting after the cost management that Ralph talked about? I think our posture is much more about controlling the things that we can control and not expecting the environment to be terribly helpful because, frankly, it hasn't been.

Sebastian? 5-part question.

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Sebastian Christian Bray, Joh. Berenberg, Gossler & Co. KG, Research Division - Analyst [12]

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Sebastian Bray of Berenberg Bank. I would have 3 questions, please. The first is on the antiperspirants business, the SummitReheis. I believe there was a divestment of a dental plant in this business. Could you give an update on how the sales ex AP actives are performing? And if this has an impact on 2020 sales?

The second question is also on the AP business, which is what happens with the plants in the U.S. once the Indian facility has finished construction? Are they written down? Are they sold? Are they just run at reduced utilization? Is this a potential source of cost savings?

And the third one is more conceptual. For the last 1.5 years, whenever the equity story of Elementis has been brought to investors, it's been, we have free strong -- very strong segments and a good cash generator in Chromium. At current margin levels, I think it would be quite margin accretive to divest the business, and I imagine cash generation is quite close to group average levels. Is that the case at current margins?

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Paul Waterman, Elementis plc - Group CEO & Executive Director [13]

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Yes. I think -- the question on the dental plant -- tell me if this is what you're looking for, but it was really a nonstrategic -- an unimportant asset, frankly, in Germany, and we felt the best way forward was to divest it, and so we did. And it has very little impact actually on the profitability of our Personal Care business, if that is the question.

The AP active plants in the U.S.A., we think, from a strategic perspective, having representation there could make sense. But I believe that, obviously, as we execute and assess kind of what the competitive environment looks like, we'll have to take a judgment. But at this point, the U.S., obviously, is a very big place, very stable place, and we have been caught out in tariffs. So that's kind of our posture.

As far as the Chromium business goes. As you know, we are pretty unemotional owners of businesses. We have been willing to divest things in the past, Surfactants, US Colourants and things like that. We feel the Chromium business is a very high-quality business for the reasons that I outlined when I was speaking. But it's -- I think it's a situation where the Board continues to always assess and look at what our portfolio looks like and what will create the most value for our shareholders, and I think that's what I would say about that.

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Ralph Hewins, Elementis plc - Group CFO & Executive Director [14]

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Just to add, Sebastian, that the sales associated with that dental plan were around $20 million, just to clarify that. And then we also have a pharma business, which is the other part of the non-AP actives business as well as another part of the dental business.

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Paul Waterman, Elementis plc - Group CEO & Executive Director [15]

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Chetan?

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Chetan Udeshi, JP Morgan Chase & Co, Research Division - Research Analyst [16]

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Chetan from JPMorgan. Maybe just on dividend. You raised it slightly, but was there a consideration to maybe cut dividend to shore up the balance sheet in this current uncertain environment? And what were the sort of puts and takes around that discussion?

And the second question was maybe on Personal Care, can you just remind us of your exposure to different regions in Personal Care? The -- essentially, the question is some of your -- or at least some of the main cosmetic companies in Asia are talking about a big slowdown post the outbreak. So just trying to understand what could be the exposure to, say, China, Japan, Korea, in total.

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Paul Waterman, Elementis plc - Group CEO & Executive Director [17]

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Why don't you take that?

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Ralph Hewins, Elementis plc - Group CFO & Executive Director [18]

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Yes. So let me take the dividend question. I mean, I guess, the first thing to say is, we do understand the importance of the dividend in the eyes of our investors and shareholders. And so we'll take that very seriously. And I set out our capital allocation framework, and I think our ability to actually stick to that framework has been validated in 2019.

So the first thing is investing to support growth. So we put $47 million in the business last year. We've got $45 million planned CapEx for this year and we've got plenty of cash available to fund the growth in the business.

The second thing is to pay down the debt. We generated over $122 million of underlying cash last year, $49 million of that goes into the dividend. We had one-offs of $29 million despite this net-net to pay down $44 million of debt. So we're able to invest in the business, pay down debt, and we have very sufficient headroom to fund the dividend. And looking ahead, as we grow towards our targets, we think we've got absolutely sufficient capacity to continue with a progressive dividend.

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Paul Waterman, Elementis plc - Group CEO & Executive Director [19]

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The question on Personal Care. About 7% of our sales are in China, just under 15% in Asia. It is definitely a space that we're watching closely because if people aren't traveling -- an awful lot of sales get made in duty-free. And as you know, the Chinese like to travel. So if that stops, I think that there's very likely to be a reduced amount of consumption. However, 80% of our Cosmetics business is in Europe or the Americas. So I think we're -- we've got a pretty good global spread.

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Dominic Convey, Peel Hunt LLP, Research Division - Analyst [20]

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Dom Convey from Peel Hunt. Just 2 questions, if I may. Firstly, around the Energy assumptions. A lot of people are already talking down the prospect of a further down year in U.S. onshore activity this year. So I just wonder whether you could elaborate a little on your assumptions and whether you're expecting to make up a decline in U.S. with growth elsewhere. And it would be useful just to remind us what the current mix of those geographies are. And then finally, in terms of the balance sheet, perhaps a reminder just -- with regards to the headroom and given the obvious macro uncertainties, what sort of stress tests you've run on the net debt EBITDA for this year?

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Paul Waterman, Elementis plc - Group CEO & Executive Director [21]

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All right. I'll let Ralph take the stress test, other than to say, we've run a lot. On Energy, we -- our assumption is that it would be quite difficult, actually, in the U.S. as it was in 2019. However, we're doing, I think, a really good job of building out the business in the Eastern Hemisphere. In 2019, we supported the Saudi Aramco drilling program, the ADNOC Kazakhstan. Because we have really strong relationships with Baker Hughes and Schlumberger, they've got sort of the distribution reach to get all over the world. So we are doing a pretty reasonable proportion of our business there.

I can tell you that we've kind of -- we secured a very nice slug of business for 2020 on the Eastern Hemisphere as well. So we feel that we'll probably perform very comparably with 2019. And again, I think as I said earlier, our assumptions are that the environment -- oil prices aren't going to help. I think the banks are tired of giving shale drillers money. That's not going to get better. I mean -- and so it's really self-help and building the business out to Eastern Hemisphere, and that's happening pretty well.

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Dominic Convey, Peel Hunt LLP, Research Division - Analyst [22]

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And in terms of the mix, U.S. versus rest of the world.

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Ralph Hewins, Elementis plc - Group CFO & Executive Director [23]

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It's about 65% U.S. and about -- there's about less than 5% in Asia and the rest is in Europe.

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Paul Waterman, Elementis plc - Group CEO & Executive Director [24]

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Any other...

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Ralph Hewins, Elementis plc - Group CFO & Executive Director [25]

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Your question on the...

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Paul Waterman, Elementis plc - Group CEO & Executive Director [26]

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Oh yes, sorry.

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Ralph Hewins, Elementis plc - Group CFO & Executive Director [27]

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On the stress testing and the debt levels. I mean I think -- the first thing to say is when we take you back to the 2019 performance, $122 million of underlying cash generation. We had $30 million of one-offs, $50 million went into the dividend and $44 million of net debt reduction. And that was in a year, frankly, when we didn't have any favors on the P&L. So it was at very tough conditions, and we still managed to get our net debt down by $44 million.

Turning to 2020, I mean, let me just outline the thing we do know for fact because there's a number of uncertainties. First of all, our covenant is at [3.25], that's over the medium term. It gets tested at 6 monthly intervals, so we tested in June and December. Based on the last 12 months EBITDA as of end June -- so we know already what the second half '19 number is, we've got a fairly good idea of 1Q. And of course, we know the DNA. We've got a very good picture of our interest, tax, pensions and dividend outflows. So we've got all of that sort of quite clearly laid out.

And clearly, we have got options within our CapEx spend of $45 million about the phasing of that and exactly when the cash goes out the door. And also, we've got options on our working capital. So all of that, having investigated that in great detail, gives us a lot of confidence that we've got sufficient headroom. Obviously, the first half, you see the main part of the dividend go out, the second half has a lower dividend phase.

And we have done a lot of stress testing. We've stress tested against revenues, against operating profit, against a certain number of shocks to cash. And we do think we got sufficient headroom to cover the cash position over the course of the next period of time.

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Paul Waterman, Elementis plc - Group CEO & Executive Director [28]

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All right. Well, if there's no further questions, thanks very much for coming. And we'll see you in August, I think.