U.S. Markets open in 8 hrs 57 mins

Edited Transcript of NLMK.MZ earnings conference call or presentation 24-Oct-19 2:00pm GMT

Q3 2019 Novolipetsk Steel PAO Earnings Call (IFRS)

Lipetsk Oct 29, 2019 (Thomson StreetEvents) -- Edited Transcript of Novolipetsk Steel PAO earnings conference call or presentation Thursday, October 24, 2019 at 2:00:00pm GMT

TEXT version of Transcript

================================================================================

Corporate Participants

================================================================================

* Dmitriy Kolomytsyn

Public Joint Stock Company "Novolipetsk Steel" - Director of IR & Capital Markets

* Grigory Fedorishin

Public Joint Stock Company "Novolipetsk Steel" - President, CEO & Chairman of the Management Board

* Shamil Ravilyevich Kurmashov

Public Joint Stock Company "Novolipetsk Steel" - CFO & Member of Management Board

================================================================================

Conference Call Participants

================================================================================

* Andrew Ian Jones

Wood & Company Financial Services, a.s., Research Division - Equity Analyst

* Anna Antonova

JP Morgan Chase & Co, Research Division - Analyst

* Boris Sinitsyn

VTB Capital, Research Division - Equities Analyst

* Daniel Harry David Shaw

Morgan Stanley, Research Division - Research Analyst

* Sergey Donskoy

Societe Generale Cross Asset Research - Equity Analyst

================================================================================

Presentation

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

Good day, and welcome to the NLMK Q3 2019 IFRS Results Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Mr. Dmitriy Kolomytsyn. Please go ahead, sir.

--------------------------------------------------------------------------------

Dmitriy Kolomytsyn, Public Joint Stock Company "Novolipetsk Steel" - Director of IR & Capital Markets [2]

--------------------------------------------------------------------------------

Yes. Good morning, and good afternoon, ladies and gentlemen. This is Dmitriy Kolomytsyn from NLMK's investor relations and capital markets team. Thank you very much for joining us today on our conference call to discuss our operating and financial performance in the third quarter of 2019.

As always, the elements of our presentation are forward-looking and based on our best view of the market. The company's CEO, Grigory Fedorishin, will present key highlights and provide market overview. And following that, our CFO, Shamil Kurmashov, will discuss our financial results in more details. We'll then be happy to answer your questions.

That's all on my side, and I hand this over to Grigory.

--------------------------------------------------------------------------------

Grigory Fedorishin, Public Joint Stock Company "Novolipetsk Steel" - President, CEO & Chairman of the Management Board [3]

--------------------------------------------------------------------------------

Thank you, Dmitriy. Dear ladies and gentlemen, welcome to everyone who joined our conference call today.

As always, before we go through the details of the third quarter financial results, let me please invite you to the Page 4 of the presentation, where we discuss major trends impacting global and domestic steel markets.

Economic activity in our key operating markets has been weak so far this year. The European manufacturing sector entered red zone in February, while Russia's PMI fell below 50 in June. The year's growth has been slowing over the last 12 months, but PMI is still above the 50 level. Nevertheless, apparent steel demand in 2019 is anticipated to increase in the key markets including China, Russia and U.S., while European steel demand is projected to decline this year.

In Russia, our largest market, demand growth was mainly driven by accelerated speed of construction at (inaudible) first half of this year. That was driven by expected changes in a local legislation. The ongoing slump in the manufacturing sector in general and in the automotive industry, in particular, led to the ongoing moderation in the steel-using sectors in the European Union. Steel consumption in the U.S. is losing momentum due to the slowdown in demand from the machine building, automotive and energy sectors.

Despite 5% year-on-year growth in Chinese steel output in the third quarter of 2019, the country's exports were down 10% year-on-year, driven by weaker external prices and solid domestic demand. Iron ore prices started to normalize post July peak of $1.20 per tonne. Already in September, the price fell to $0.90 per tonne, following resumption of iron ore exports from Brazil and Australia as well as higher output at Chinese mines.

Coking coal prices declined about 20% during the third quarter to reach $145 per tonne. Weak demand in India and import restrictions in China resulted in negative coking coal price dynamics, which is certainly -- was different on case, since we are not vertically integrated in coking coal.

Looking forward, steel demand is projected to grow in 2020 across key regions with global consumption slowly rising 1.7% year-on-year based on current consensus estimates.

Let's now turn to Page 5 and discuss pricing for steel products. During the third quarter, steel prices dynamics was negative across all key global markets except Russia. Domestic HRC prices increased 2% quarter-on-quarter on average. This was driven by a seasonally strong demand. There, in third quarter, we observed high domestic price premium of $110 per tonne on average. Well, currently, the premium is moving down, and we expect it to normalize already in November. The current level we see is about $70 per tonne, which is close to long-term average of $65 per tonne.

Export slab prices declined 11% quarter-on-quarter due to weaker demand on export markets in the third quarter. Export prices of Chinese manufacturers decreased also 6% due to the solid demand from the global markets, and domestic prices in China were under pressure as well, falling 7% quarter-on-quarter, which was indicative of lower raw material costs and local currency devaluation.

The U.S. prices fell quarter-on-quarter, driven by softening demand falling through material prices, including scrap as well as destocking effects. In addition, customer expectations of further steel price softening impacted pricing dynamics in the region. Average prices in the EU continued to decline third quarter in a row, driven by weaker demand, some slowdown and pressure from imports. Normalization of raw material prices put further pressure on the steel prices. Spreads fell 20% quarter-on-quarter in the third quarter of '19 and approached the minimum average level the market has witnessed during the past 5 years.

In the EU and U.S., average gross profits per tonne of HRC remain depressed, the situation that we believe is not sustainable. However, so far, we see this trend keeping up in the fourth quarter. European producers announced capacity cuts that amounted to 12 million tonne per year, or 6% of installed capacity so far this year, which midterm, should be supportive for European prices going forward.

So let's now please switch to Page 6. Here, we would like to briefly discuss our operational results. Our numbers continue to be impacted by scheduled big-scale capital repairs of our blast furnace and steelmaking operations at NLMK Lipetsk site. However, this seems to be -- seems like good timing, given where steel prices are at the moment. As a result, we reported local -- lower production for the third quarter and, therefore, 6% quarter-on-quarter decline in shipments. The most of the decline happened in the shipments of slabs to our European operations, while shipments of finished steel and semis to the third parties actually increased. In OMK, Europe required less slabs due to weak demand in the region, as mentioned before, and seasonal maintenance. Even though the sales of finished goods and high value-added products remained slightly up quarter-on-quarter, the share of high value-added products in total mix increased by 3 percentage points to 33%.

In the third quarter, our internal iron ore needs were lower due to mentioned maintenance and upstream operations of NLMK Lipetsk. We, therefore sold about 360,000 tonne of iron ore concentrate to the third parties and took advantage of strong pricing environment.

Let's please move to the Page 7, where we talk about outlook and the way we see things evolving in the fourth quarter. We expect demand and prices in Russia to reflect seasonal slowdown. In Europe, pricing weakness could persist in the short term due to sluggish underlying demand. However, in the medium term, production cuts should support supply and demand balance in the region as well as steel prices.

In the U.S., seasonally slow demand could restrain significant steel price moves, but lower scrap prices may support margins. In China, local prices would be supported by limited supply during heating season and potential stimulus measures. At NLMK, we expect crude steel output to rise due to the completion of maintenance of blast furnace and steelmaking operations. We plan to reach our previously announced 2019 production target of 12 million tonne of steel at NLMK Lipetsk.

Now I would like to hand this over to our CFO, Shamil Kurmashov. Please go ahead, Shamil.

--------------------------------------------------------------------------------

Shamil Ravilyevich Kurmashov, Public Joint Stock Company "Novolipetsk Steel" - CFO & Member of Management Board [4]

--------------------------------------------------------------------------------

Thank you, Grigory. Good day, everyone. Let me now discuss our third quarter financial results, cash flow dynamics as well as dividends.

Let us now begin with Page 9. NLMK's revenue was down 8% on the back of 6% decline in shipments and lower average realized steel prices. This was, nevertheless, partially offset by higher sale of finished steel and value-added products in the sales mix.

The group's EBITDA works out at level $654 million, while EBITDA margin was at a stabilized solid level of 25%. Our lower consolidated EBITDA was mainly driven by the aforementioned lower steel prices and sales volumes. And in addition to that, negative EBITDA dynamics of our operational assets affected our consolidated results. But all this was partially offset by increased sales of finished and high value-added steels as well as the effects of the operational efficiency program.

Let us now move to Page 10 and discuss third quarter EBITDA and EBITDA margin dynamics by division. EBITDA of Russian Flat product division decreased by 20% to $363 million. This was mainly due to narrow spreads between steel prices and raw materials, predominantly coking coal as well as lower slab shipments, which was partially offset by higher share of value-added and finished goods.

We have positive trend in our Long Product division, which delivered EBITDA growth of 28% quarter-on-quarter and amounted to $46 million, following sales mix change towards the largest share of finished products. The proportion of finished products was 82%. This fully offset the 3% quarter-on-quarter drop in sales in this division. Our EBITDA margin is, therefore, 9%, which is very -- also solid for this -- for this portion of business.

In U.S. division, our EBITDA was in the negative zone as a result of soft price environment combined with expensive inventories of slabs. In the Mining division, EBITDA margin continued to stay strong and rose to 77% in the third quarter on the back of higher shipments and iron ore prices as well as the successful operational efficiency gains. EBITDA at NLMK DanSteel was flat. And we were also in negative zone in our NBH division due to also lower sales and high maintenance costs.

So let us now move to Page 11 and where we can discuss the cash flow dynamics. The key -- the additional thing here is that we generated $249 million in free cash flow during the third quarter despite the fact that, that was a rather difficult period, and we had a negative quarter-on-quarter dynamics in steel prices and spreads. And nevertheless, the level of free cash flow is rather solid.

Let me just tell you a few words about dynamics of working capital and the key driving forces which stand behind such dynamics. We generated 16% more of net operating cash flow in the third quarter, which was supported by a moderate release of working capital. There are key 2 reasons and contributors to the release of working capital. First of all, there was a decrease in inventories in particular, lower cost of third steel -- third-party slab purchases at NLMK USA and moderate destocking at -- on the Lipetsk site. The negative effect from decline in accounts payables due to lower slab purchases from NBH compensated the decrease in accounts receivables driven by lowest slab sales to NBH. We also invested more during the third quarter because we are in an intensive stage of our capital expenditure program, and all -- the amount of our investments amounted to $316 million in the third quarter as compared to $227 million in the previous quarter. 75% of the third quarter CapEx was related to the Russian Flat division, where we have been restructuring blast furnace and BOF.

On the next page, I would like to discuss our debt and liquidity profile. Our total debt at the end of the previous quarter decreased by 4% to $2.7 billion. The decrease was driven by scheduled repayment of 7-year eurobond in the amount of $446 million, with an annual coupon of 4.95%. Our leverage increased to 0.6 due to dividend payments, and lower EBITDA also contributed to the growth -- a slight growth of this indicator. Nevertheless, NLMK's liquidity position remains high and amounted to almost $1 billion at the end of the quarter and which is substantially above our short-term debt and half of which was represented by pure cash and half of cash and cash equivalents, short-term investments. The company's debt maturity profile is, as always, well distributed and exceeds our short-term debt requirements. This is all -- this is it for my part, and I would like to thank you, and would be happy to take your questions.

================================================================================

Questions and Answers

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

(Operator Instructions) Our first question today will come from Dan Shaw with Morgan Stanley.

--------------------------------------------------------------------------------

Daniel Harry David Shaw, Morgan Stanley, Research Division - Research Analyst [2]

--------------------------------------------------------------------------------

Just one question for me. You mentioned in your remarks that you're seeing around $70 domestic premium at the moment. Black Sea prices are around $380. So that would imply that domestic HRC prices are in the region of $450 or thereabouts. The numbers that I see are a bit higher than that. So I just wanted to check what prices you're seeing at the moment for domestic prices. And have they come down materially in the last week or so that perhaps we can't see from our position?

--------------------------------------------------------------------------------

Grigory Fedorishin, Public Joint Stock Company "Novolipetsk Steel" - President, CEO & Chairman of the Management Board [3]

--------------------------------------------------------------------------------

Daniel, thank you for the question. Well, I am referring to the sort of the average premium across the mix. So I'm not probably in a position to comment on the specific prices of the specific products in the mix. But let's say it's materially down from the level we saw just a month ago.

--------------------------------------------------------------------------------

Operator [4]

--------------------------------------------------------------------------------

Our next question will come from Sergey Donskoy with Societe Generale.

--------------------------------------------------------------------------------

Sergey Donskoy, Societe Generale Cross Asset Research - Equity Analyst [5]

--------------------------------------------------------------------------------

I have, I think, 3 questions, short ones. First of all, could you please repeat your CapEx guidance for the year for the group and also separately, whatever you plan to invest in NBH, which I think is reported separately?

And also, 2 small questions on your U.S. operations. You mentioned that the negative result in the third quarter was partly a consequence of expensive slab inventories used. Could you remind us what is the size of these -- the average size of this inventory in, say, months of use? And also, if that is possible, could you indicate what is currently the cost differential between using your own slabs from Lipetsk and the slabs sourced from third parties, taking into account the import tariffs?

--------------------------------------------------------------------------------

Grigory Fedorishin, Public Joint Stock Company "Novolipetsk Steel" - President, CEO & Chairman of the Management Board [6]

--------------------------------------------------------------------------------

So Sergey, thank you for the questions. Well, for the CapEx, we reconfirm our guidance of $1 billion for this year. NBH, well, remaining portion for this year is relatively small and the investment programs there is just started. Main thing is reconstruction of (inaudible) strip mill. So the main investment will come next year. So I would say, about $30 million, maybe $40 million this year for NBH and street product is the main part of it.

For U.S. third quarter and the slabs over there, well, roughly on average, now it depends heavily on source of the supply because when we supply Brazilian slabs, for example, there is a quota as you know, and we have a quarterly management of this quota. So you may see different stocks quarter-on-quarter. But on average, we keep there about 400,000 tonne of slabs for 2 sites. So sometimes lower to 300,000, sometimes higher, to probably 500,000.

And the third question was on the cost differential, right?

--------------------------------------------------------------------------------

Daniel Harry David Shaw, Morgan Stanley, Research Division - Research Analyst [7]

--------------------------------------------------------------------------------

Yes.

--------------------------------------------------------------------------------

Grigory Fedorishin, Public Joint Stock Company "Novolipetsk Steel" - President, CEO & Chairman of the Management Board [8]

--------------------------------------------------------------------------------

Well, just to reconfirm that we stopped supplying slabs from Lipetsk completely because of prohibitive duty of 25%. So now we supply elsewhere, Brazil, Canada mainly. Does it answer your question?

--------------------------------------------------------------------------------

Sergey Donskoy, Societe Generale Cross Asset Research - Equity Analyst [9]

--------------------------------------------------------------------------------

Yes.

--------------------------------------------------------------------------------

Grigory Fedorishin, Public Joint Stock Company "Novolipetsk Steel" - President, CEO & Chairman of the Management Board [10]

--------------------------------------------------------------------------------

Good.

--------------------------------------------------------------------------------

Operator [11]

--------------------------------------------------------------------------------

We will take our next question from Boris Sinitsyn with VTB Capital.

--------------------------------------------------------------------------------

Boris Sinitsyn, VTB Capital, Research Division - Equities Analyst [12]

--------------------------------------------------------------------------------

This is Boris Sinitsyn from VTB Capital. Just one question from our side, please. In the third quarter, you report quite high share of Russian sales of more than 40%. The question is do you plan to raise it even more taking into account premium on the Russian domestic market?

--------------------------------------------------------------------------------

Grigory Fedorishin, Public Joint Stock Company "Novolipetsk Steel" - President, CEO & Chairman of the Management Board [13]

--------------------------------------------------------------------------------

Well, first of all, we expect the premium to go down and to come back at least to their normalized level, we would expect to see midterm, which is $50, $60. On top of this, you have a seasonal slowdown which may actually lead to even lower premium. Coming back to your question on the volumes. Again, that's -- the main factor is demand. And historically and seasonally, fourth quarter is always the weakest one in the domestic demand. So that will actually be main contributing factor under the balance between export and domestic sales.

--------------------------------------------------------------------------------

Operator [14]

--------------------------------------------------------------------------------

(Operator Instructions) We'll take our next question from Anna Antonova with JP Morgan.

--------------------------------------------------------------------------------

Anna Antonova, JP Morgan Chase & Co, Research Division - Analyst [15]

--------------------------------------------------------------------------------

One question from our side. So your cash cost of slab on nonconsolidated basis has been trending up from Q1 and was, as you reported, $344 per tonne in Q3. Given that you guide for the majority of maintenance works and blast furnaces to be over from Q4 and going forward, how do you view the dynamics of your slab cash cost from Q4 and into next year?

--------------------------------------------------------------------------------

Grigory Fedorishin, Public Joint Stock Company "Novolipetsk Steel" - President, CEO & Chairman of the Management Board [16]

--------------------------------------------------------------------------------

Thank you for the question. Well, first, just to remind you that next year, we'll have the maintenance of blast furnaces and steelmaking operations continued. So the current plan is about 12.4 million tonne at Lipetsk site, which is still below what you saw, for example, in 2018. It was 13.2 million. And then in 2021, the plan is to come back and actually to grow 1 million to 14.2 million, at least 1 million tonne at Lipetsk. So for another year, this factor, the growing volumes will not impact, call it, the cash cost of slab significantly. But anyway, the main contributing factors are not those volumes slows because the relative percentage is not that big. It's the cost items and it's raw material costs mainly. So you see 250 in the third quarter. We would expect this number to go down fourth quarter given all the prices, all the 3 major things, namely coking coal, iron ore and scrap going down. And then going forward, it will depend on how raw material prices will evolve.

--------------------------------------------------------------------------------

Operator [17]

--------------------------------------------------------------------------------

(Operator Instructions) We'll take our next question from Andrew Jones with Wood & Company.

--------------------------------------------------------------------------------

Andrew Ian Jones, Wood & Company Financial Services, a.s., Research Division - Equity Analyst [18]

--------------------------------------------------------------------------------

Could you just talk us through the dynamics impacting the fourth quarter in each of the divisions? I mean, you've commented already upon obviously falling prices in Russian Flats, probably a slight deteriorating mix, although higher volumes, partially helped by falling coal prices. But what do you see in some of the other divisions in terms of the Long Products -- in terms of falling Long Products, will you still be negative in the fourth quarter, given obviously slab prices are coming down as well? Can you just give us a bit of an idea on the quarter-on-quarter dynamics you're expecting a bit with a bit more detail, please? And also, just in terms of the seasonality, I guess, where you're probably building stocks at this time of the year, what sort of working capital movements do you expect in the fourth quarter?

--------------------------------------------------------------------------------

Grigory Fedorishin, Public Joint Stock Company "Novolipetsk Steel" - President, CEO & Chairman of the Management Board [19]

--------------------------------------------------------------------------------

Thank you, Andrew. I'll take the first one. And the stock management, I will refer to Shamil. So we generally don't guide on the EBITDA dynamics. I can say, the fourth quarter seems to be challenging. We do a lot on the cost side. We are well on track in terms of the operational improvements. So you may remember that we guided for $100 million effect in the long term. Actually, the forecast is $150 million least. So we'll try to compensate the unmanageable factors, namely price and the weak market, seasonally weak market because you mentioned the Long Products. 95% of the consumption there is Russian market. We'll try to compensate by higher volumes of steel and slabs and the operational efficiency programs.

--------------------------------------------------------------------------------

Shamil Ravilyevich Kurmashov, Public Joint Stock Company "Novolipetsk Steel" - CFO & Member of Management Board [20]

--------------------------------------------------------------------------------

Then on U.S., yes we are comfortably (inaudible) on spot. We monitor the finished product pricing dynamics very carefully and we can, vice versa, utilize slabs only if it makes sense from the profitability perspective. So we're sort of drifting in the market there.

--------------------------------------------------------------------------------

Andrew Ian Jones, Wood & Company Financial Services, a.s., Research Division - Equity Analyst [21]

--------------------------------------------------------------------------------

Okay. But I mean, are you -- I mean, if you're buying slabs from Brazil or Canada or wherever you're getting them from now. I mean, on spot, are you -- I mean, are you seeing steel production values actually being profitable? Or should we expect a large decrease in volumes in the fourth quarter? Because you just don't see it as profitable to produce. And what's your -- what sort of changes do you expect in volumes and in spreads in the fourth quarter?

--------------------------------------------------------------------------------

Grigory Fedorishin, Public Joint Stock Company "Novolipetsk Steel" - President, CEO & Chairman of the Management Board [22]

--------------------------------------------------------------------------------

Given, again, in U.S., it's also seasonally weak quarter. You may expect lower volumes comparing to the third quarter. In terms of the financial results, you should see either breakeven or slightly negative. But I wouldn't expect any dramatic reduction to the numbers that we see now.

--------------------------------------------------------------------------------

Andrew Ian Jones, Wood & Company Financial Services, a.s., Research Division - Equity Analyst [23]

--------------------------------------------------------------------------------

Okay, understood. And yes. And on the working capital?

--------------------------------------------------------------------------------

Shamil Ravilyevich Kurmashov, Public Joint Stock Company "Novolipetsk Steel" - CFO & Member of Management Board [24]

--------------------------------------------------------------------------------

What I would say as far as the working capital is concerned, I expect more release of working capital in the forthcoming quarter, first of all. And predominantly, because of the factor of decreasing prices, which is going to reduce our accounts receivable and predominantly to the European region. Those would be at least the same as in the third quarter, but we think it will be much more significant release in the fourth quarter.

--------------------------------------------------------------------------------

Grigory Fedorishin, Public Joint Stock Company "Novolipetsk Steel" - President, CEO & Chairman of the Management Board [25]

--------------------------------------------------------------------------------

And Andrew, you mentioned the (inaudible) stock, right? Actually, the most of it is accumulated in the -- at the end of the third quarter. So that's why actually you see just plus $20 million coming out of working capital release. It should have been much more because we had lower volume of (inaudible) slab stocks at U.S. And we did a lot to improve the turnover, the finished products on the Russian side. But because we accumulated -- we had a growing scrap stocks at Lipetsk and the Long Products divisions for winter months. That was marginally positive. But you don't expect this -- you shouldn't expect this for the fourth quarter. And as Shamil said, it's either flat or positive. So we would expect further release because of the falling prices.

--------------------------------------------------------------------------------

Andrew Ian Jones, Wood & Company Financial Services, a.s., Research Division - Equity Analyst [26]

--------------------------------------------------------------------------------

Okay. Understood. And just -- sorry, just another question on CapEx. Given the lower price environment. If these prices stay where they are now, which projects would you consider potentially delaying? Or I mean are you proceeding with the plans for your Capital Markets Day earlier in the year regardless of price? Or would you consider scaling back your CapEx program for next year in response to lower prices? And which projects would probably fall first?

--------------------------------------------------------------------------------

Grigory Fedorishin, Public Joint Stock Company "Novolipetsk Steel" - President, CEO & Chairman of the Management Board [27]

--------------------------------------------------------------------------------

Well, first of all, I think it's probably a bit premature. That's a cyclical industry, as we all know, and I hope you'll see the recovery soon. The assumptions we had under our strategy were rather conservative, as you remember. So we never used big prices. We run the good year prices, I would say. That's -- when we guided, what we said, it's long-term average or lower. So we are pretty sure it's a robust number. Also, it's quite flexible. We reassess of what we do every quarter. And if we see that doesn't makes sense either in terms of the liquidity or dividend commitments or pricing, we delay or cancel. So far, no dramatic change. We stick to the strategy.

--------------------------------------------------------------------------------

Operator [28]

--------------------------------------------------------------------------------

(Operator Instructions) It appears there are no more questions at this time. I will turn the conference back over to our speakers.

--------------------------------------------------------------------------------

Dmitriy Kolomytsyn, Public Joint Stock Company "Novolipetsk Steel" - Director of IR & Capital Markets [29]

--------------------------------------------------------------------------------

Okay. If there are no further questions, thank you very much for joining our call, and we are looking forward to seeing you again next quarter.

--------------------------------------------------------------------------------

Operator [30]

--------------------------------------------------------------------------------

Ladies and gentlemen, thank you for joining today's conference call. The call has now concluded. Please disconnect your lines, and have a great day.