U.S. Markets closed

Edited Transcript of PFC.L earnings conference call or presentation 28-Aug-19 8:30am GMT

Half Year 2019 Petrofac Ltd Earnings Presentation

SAINT HELIER Sep 9, 2019 (Thomson StreetEvents) -- Edited Transcript of Petrofac Ltd earnings conference call or presentation Wednesday, August 28, 2019 at 8:30:00am GMT

TEXT version of Transcript

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

Corporate Participants

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

* Alastair Cochran

Petrofac Limited - CFO & Executive Director

* Ayman Asfari

Petrofac Limited - Group Chief Executive & Executive Director

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

Conference Call Participants

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

* Amy Wong

UBS Investment Bank, Research Division - Head of European Oil Services, Executive Director & Analyst

* David Richard Edward Farrell

Crédit Suisse AG, Research Division - Research Analyst

* Henry Michael Tarr

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

* James Richard Hubbard

Numis Securities Limited, Research Division - Analyst

* Lillian Starke

Morgan Stanley, Research Division - Research Associate

* Malcolm Graham-Wood

Hydrocarbon Capital - Founding Partner

* Mark Wilson

Jefferies LLC, Research Division - Oil and Gas Equity Analyst

* Michael Brennan Pickup

Barclays Bank PLC, Research Division - MD & Senior European Oilfield Services Analyst

* Sahar Islam

Goldman Sachs Group Inc., Research Division - Analyst

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

Presentation

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

Ayman Asfari, Petrofac Limited - Group Chief Executive & Executive Director [1]

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

And welcome to our half year results presentation for 2019. I'm joined today by Al Cochran, our Chief Financial Officer, who will take you through our financial results.

Before I run through the highlights, I'd like to talk about our HSE performance. Safety and the environment are critical to our business. Safety is particularly important in our industry and is one of Petrofac's core values. We are well aware of the increasing focus of our investors and other key stakeholders on the environmental, social and governance factors.

ESG is a priority for Petrofac's management and Board. And over the coming months, we will be increasing our disclosure and communication to give you a clearer review of the factors that are important to us and how we perform against them.

Looking at our safety performance for the first half, I'm pleased to again report our lost time injury frequency rate, which is well below the industry average. The rate was a significant improvement versus our performance last year.

Looking at our environmental performance, the greenhouse gas intensity of the E&C and EPS businesses continued to decrease. In IES, GHG intensity was higher versus 2018 due to the change in the asset mix.

Turning now to the highlights for the first half of 2019. We have delivered a solid operational performance in the first half of 2019 as we made steady progress delivering on our portfolio of projects. We have secured $2 billion of new orders in the year-to-date, which reflects challenges in 2 of our core markets, Saudi Arabia and Iraq. Despite this, we are today reporting good financial results. Our balance sheet remains strong, and we are announcing an interim dividend of $0.127 per share, in line with our policy.

We are executing well against our strategic priorities. Our focus in the near term is maintaining our competitive advantage through best-in-class delivery for our clients. We are also working to enhance our returns by maintaining our balance sheet and capital discipline, improving cash conversion and reviewing options for our remaining noncore assets.

Looking ahead, we are well positioned with a healthy bidding pipeline in core and growth markets. The strength of our pipeline is indicative of an ongoing -- of an improving market outlook. And we are committed to maintaining our bench strength and our technical capability in anticipation of a return to growth in the medium term.

I will now hand over to Al to take you through the financial results, and I'll come back to talk about the operations as well as the outlook.

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

Alastair Cochran, Petrofac Limited - CFO & Executive Director [2]

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

Thank you, Ayman. Good morning, everyone. Today, I'm pleased to report another good set of half year results with net profit of $154 million, in line with guidance. We also maintained a net cash position of $69 million, reflecting better than expected working capital inflows at the end of June.

Looking forward, our order backlog of $8.6 billion gives us good revenue visibility in the near term. Consequently, the Board is maintaining the interim dividend at $0.127 per share, in line with policy.

So let's look at the results in a little more detail. At a group level, excluding exceptional items, revenue was up a fraction at $2.8 billion, with an underlying increase in revenue in all divisions offsetting -- offset by prior year asset sales in IES.

EBITDA and net profit were both lower year-on-year with project mix, prior year asset sales and a higher effective tax rate all reducing net margin. As a consequence, diluted earnings per share fell 20% to $0.449 per share. Only $15 million of post-tax exceptional items were incurred in the period.

At a divisional level, Engineering & Construction delivered solid first half results. Revenue increased 2% to $2.3 billion with variation orders more than offsetting the negative effect of project phasing. As you can see from the chart, net margin decreased to 6.5%, at the low end of guidance driven by project mix, cost overruns and higher tax. Consequently, net profit fell 16% to $148 million.

Looking forward, more than $7 billion of order backlog provides good visibility and guidance remains unchanged for 2019. We continue to expect E&C to report revenue of $4.5 billion and net margin at the low end of our guidance range.

Turning to our reimbursable business. Engineering & Production Services benefited from strong growth in brownfield projects with revenue increasing 4% to $448 million. As expected, net margins fell to 5.1% driven by declining contract margins, higher overheads and higher tax. As a result, net profit was down 15% to $23 million. Backlog also fell, reflecting lower order intake. Once again, we're reiterating prior guidance that we expect EPS to deliver good growth in revenue in 2019 and net margins to be in the range of 3% to 4% as high-margin contracts roll off in the East.

Finally, our upstream Integrated Energy Services business delivered net profit of $7 million in the first half driven by good growth in underlying profitability. On a like-for-like basis, excluding prior year asset sales, revenue increased 5%, benefiting from an increase in both equity production and realized oil prices. In the same period, underlying EBITDA was up 31% to $58 million driven in large part by higher associate income from our PetroFirst joint venture.

In our equity portfolio, EBITDA rose to $49 per barrel reflecting the change in production mix, whilst in Mexico, cost recovery from our production enhancement contracts fell as investment declined. Overall, these contributed to a material increase of first half net profit, up $12 million on an underlying basis. Looking forward, we expect IES to report a marginal loss in 2019 at current spot prices, although the portfolio remains cash generative.

Moving on to the balance sheet. Net working capital deteriorated modestly in the first half, reflecting an expansion in both DSO and DPO. Notwithstanding this, we continue to run our contract portfolio with negative working capital despite lower order intake and a maturing project portfolio. The 12-day increase in days payable outstanding or DPO was driven entirely by rise in trade payables, whilst days sale outstanding or DSO increased by 15 days in the first half.

As this chart shows, this can be attributed entirely to an increase in nonbillable work in progress, principally assessed variation orders, which closed the period at $467 million. By contrast, the billable element of work in progress fell modestly driven by a reduction in trade receivables. Looking forward, we are pulling all available levers to reduce DSO and the time taken to convert revenue into cash by focusing on closing commercial settlements more quickly and reducing invoice cycle times.

In cash terms, the modest working capital outflow of $11 million contributed to higher cash conversion, which, together with lower interest payments, helped generate healthy free cash flow in the first half. This comfortably covered dividend payments and ensured the group closed the period end with $69 million of net cash. We also retained strong liquidity throughout the period, ending the half with $1.8 billion of readily available cash and undrawn facilities.

Our success in strengthening the balance sheet over the last 3 years reflects, in large part, strong capital discipline, most notably the retirement of more than $1 billion of debt, the 75% reduction in CapEx and the rebasing of our dividend. Nonetheless, our commitment to strict capital discipline remains undiminished with a clear capital allocation hierarchy that prioritizes 3 uses of capital: firstly, essential CapEx; secondly, maintaining a strong balance sheet; and thirdly, paying an attractive sustainable dividend. Other uses of capital must compete for surplus cash flow based on returns.

Fundamentally, this framework seeks to reinforce our competitive position with clients whilst maximizing value and returns for our shareholders. This is reflected in our return on capital employed, which was unchanged at 24% despite the decline in net profit.

And whilst the group has largely completed its transition back to a capital-light business, we remain focused on enhancing returns by pulling those levers within our control. Reducing costs will improve both profitability and our competitive position. Improving cash conversion will protect the balance sheet and dividend as well as release cash for other uses. Divesting noncore assets will increase free cash flow and reduce capital intensity. And capital discipline will maximize value and returns from investment.

So in summary, we've delivered a good set of first half results, maintained a strong balance sheet and generated good returns. Looking forward, we are well positioned for the remainder of the year with a healthy order book and good revenue visibility.

With that, I'll hand you back to Ayman.

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

Ayman Asfari, Petrofac Limited - Group Chief Executive & Executive Director [3]

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

Thank you, Al. I'll touch on our new order intake in E&C before updating on the market outlook and the pipeline and the strategy.

While we had some contract wins in Algeria and Oman in the first half, the timing of the SFO's announcement in February led to challenges in 2 markets: Saudi Arabia and Iraq. As we highlighted at the trading update, this resulted in an estimated loss of around $2 billion to $3 billion of potential work.

Beyond Saudi and Iraq, we maintained a good win rate of around 25% in other markets, which is in line with our historical track record. We continue to maintain excellent relationship with all our clients in all markets, including, as a matter of fact, Saudi Arabia and Iraq, and we are very hopeful that business will resume as normal in Saudi and Iraq in the near term. However, to be prudent, our pipeline guidance does not include tenders in these markets.

Turning to market outlook. We have seen a recovery in activity in both our core and growth markets. This is reflected in the strength of our current bidding pipeline and is indicative of an improving market outlook. In addition, while there has been little change in the level of competition, the order books of many of our competitors have been filling up.

We are also seeing some companies moving away from lump sum risk and towards reimbursable commercial models driven in some cases by poor execution and financial pressure. We think the combination of these factors will lead to a more favorable market that is better balanced between buyers and sellers of services.

Looking at the next 12 months, we have a healthy bidding pipeline of around $34 billion across E&C and EPS. Tendering activity remains high and we are targeting a diversified set of opportunities. In the second half of 2019, we have a pipeline of more than $13 billion that hopefully is due for award before the end of the year. As I mentioned earlier, to be prudent, we have not included Saudi and Iraq in our near-term pipeline.

Turning now to our strategy. We have 3 priorities that we have laid out from the very beginning: best-in-class delivery, enhancing returns and positioning the company for growth again. Al has already talked about -- to you about focus on enhancing returns. From operational perspective, we are focused on best-in-class delivery to maintain our competitive advantage and to position the company for return to growth.

Best-in-class delivery encompasses 4 priorities. Looking at costs, we have consistently benefited from leading industry margins. To protect our position, we are working to improve our competitiveness. Our focus is on the rightsizing -- is on rightsizing our operations and reducing headcounts while retaining our bench strength and technical capability.

We are also digitalizing our business and the service that we provide to our clients. We are deploying proven technologies from other industries and using them to transform the way we execute. Internally, we are using digital technologies to increase the efficiency and effectiveness of our core processes.

Our other priorities for best-in-class delivery are increasing local content and investing in talent. In-country value is part of Petrofac's DNA and is a source of competitive advantage. Our focus is on training local workforces and investing in and developing local supply chains so the benefits of our involvement extend far beyond the life of the project.

I mean this is something that we would like to feature in the analyst visit at Oman in October. I would encourage you all to please join us on that trip. We have made a commitment there. We have a world-class training center. We do a hell of a lot to increase the Omani content. And it's an example of what we do in all the markets that we operate in.

Finally, we are also investing in developing in Petrofac's talent. Our graduate scheme resumed earlier this year, and I'm delighted that we've had more than 11,000 applications for 135 places. We are also investing to maintain our bench strength and technical capability and -- so we are able to return to growth in the medium term.

Positioning Petrofac for a return to growth is of critical importance. E&C is focused on refining petchems and renewables. In refining, we are developing a strong track record with significant projects already completed or in progress, while in petchem, we selected leading partners for a number of upcoming bids.

In renewables, we are building on our success in offshore wind while exploring opportunities in solar to produce steam for heavy oil production. Looking at new geographies, growth countries account for over 40% of our current pipeline with the majority of the opportunities in Asia, Europe and the CIS.

In EPS, Engineering & Production Services, we have 3 areas of focus in new markets. The first is brownfield projects. We are positioning for work resulting from asset transfers in NOC, and we're targeting small projects and maintenance and operations work in the East.

Our second focus is wells. We are seeing increasing plug and abandonment work, while we are well positioned to support clients with decommissioning. And our final focus is expanding our operations work in the North Sea. As assets continue to change hands, we are positioning ourselves to support the acquirers. We're also looking to new geographies in EPS to diversify beyond our established centers of activity. The U.S. services market is of particular interest, while we have appetite for opportunities in the CIS and Southeast Asia.

Just on the outlook and a summary. In summary, we have reported a good set of results today that demonstrates the solid operational performance of the business. Lower new orders in the year-to-date reflect the headwind we are facing in 2 jurisdictions as a result of the negative publicity from the SFO announcement in February. We continue to engage with the SFO and we are focused on bringing this matter to closure as quickly as possible. We believe this is in the best interest of all stakeholders.

In the meantime, we are taking every measure within our control to protect and strengthen our franchise. We are maintaining our competitive advantage through best-in-class delivery for our clients, reducing cost, driving digitalization, increasing local content and investing in talent. Two, we have high levels of tendering activity and we are very focused on winning new projects over the second half of this year.

Three, we are committed to maintaining our bench strength and technical capability through this period. And four, we're focused on enhancing returns. We have a disciplined capital allocation policy in place that prioritizes the dividend and maintains a strong balance sheet.

Looking ahead, we see an improving market outlook, and I'm confident that we will rebound strongly and resume our growth trajectory over the medium term.

With that, I will now like to open for Q&A. Please wait for the microphone and state your name and institution. Thank you so much. Mick?

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

Questions and Answers

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

Michael Brennan Pickup, Barclays Bank PLC, Research Division - MD & Senior European Oilfield Services Analyst [1]

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

It's Mick from Barclays. You talked about a more favorable and better balanced E&C market. Can you talk about how that is materializing? Is it showing up in terms and conditions, the conversations with clients? What exactly are you seeing which makes you so optimistic?

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

Ayman Asfari, Petrofac Limited - Group Chief Executive & Executive Director [2]

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

Well, I think there are 2 things. First of all, we are seeing a number of competitors getting pretty busy in the markets we operate. So we've seen some of the European competitors secure quite a bit of work in the first half of this year. Some of this work, and frankly, we will have secured, so that capacity is filling up pretty fast.

And what happens is every company would have a certain capacity. If you don't get business somewhere, you're going to go -- we'll go to Abu Dhabi, we'll go to Kuwait, we'll go to Malaysia, we'll go elsewhere. So we are seeing a lot of the capacity of our competitors being filled up.

But also, we are seeing a number of companies exit fully from the lump sum business. I can name -- I don't want to name them, but there are 4 companies, major competitors who have decided that with the losses as a result of not very good execution and financial pressures, they're exiting from that.

So when I look at the outlook and we look at the overall -- the size of the projects that are being contemplated by our clients in the next few years, I mean the pie is increasing. And frankly, the supply of capability, to a certain extent, is -- we see it decreasing. And it has -- there's no doubt that the market has been a buyer's market the last 4 or 5 years.

And I think there is going to be a better balance in terms of the supply/demand for the services. I mean we -- it's yet to manifest itself with higher order intake for someone like us, but we had very specific challenge that was -- if it hadn't been for that challenge, we would have had, frankly, a fantastic first half of this year.

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

Michael Brennan Pickup, Barclays Bank PLC, Research Division - MD & Senior European Oilfield Services Analyst [3]

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

Okay. And the second question. You've introduced the phrase bench strength, I think, through [the years] and maintaining that bench. Can you just talk about the cost that you're carrying for that, maintaining the strong bench?

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

Ayman Asfari, Petrofac Limited - Group Chief Executive & Executive Director [4]

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

To be candid with you, Mick, this all depends on what happens in the second half of this year. What we are hoping is that we would be able to allocate all our strength to work -- to effective work. But the -- as -- and as we get towards the end of the year, depending on how much of our bench strength will be allocated to projects and how much we will retain will be -- we'll disclose that fully with our end of year results.

But what we believe in is that the setback that we've had is temporary. What the Board and I don't want to do is to damage the franchise. We believe any dip will be for a short period of time. We think we want to emerge out of the current challenges with a best-in-class execution machine, which we've always had, we're working on this, we continue to work on this, and a capability that is able to deliver very effectively a business for the size of the group.

I mean we -- our machine can deliver easily $5 million to $6 million worth of revenue. And if we have a dip, it will be a temporary dip. But our market share is up. And so we haven't yet -- we will disclose that number. But in terms of priorities, what we don't want to do is end up with a truncated machine that will not be able to take advantage of the market outlook going forward. Okay? Please.

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

James Richard Hubbard, Numis Securities Limited, Research Division - Analyst [5]

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

James Hubbard from Numis. Just 2 questions. If you left Iraq and Saudi in that bid pipeline, how much bigger than $13 billion would it have been? I see the pie chart in the back. They're not massive contributors to first half revenues, but they are 2 very large markets in the Middle East. I would've thought they would be important to you on a normal basis.

And secondly, I don't and I suspect most people don't understand the exact mechanism of why Saudi and Iraq were upset with the press release to the extent that you're now apparently finding it challenging to win work in those markets. And given that I don't understand that, can you give then any assurance that, that won't be contagious? And we'll see Oman, Algeria, Indonesia, India in due course also make it more challenging for you to win new work. Is there any words of comfort you can offer on that front?

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

Ayman Asfari, Petrofac Limited - Group Chief Executive & Executive Director [6]

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

Okay. Well, let me start with the second and I'll go back to the first. The answer is absolutely no contagion. We've had no impact whatsoever in any of the other markets. The most that we have seen is some markets -- some clients asking us for questions and wanting to look at our compliance program and having the compliance review, our compliance program. But we've seen no impact at all and it doesn't come out at all.

I think the -- so to -- and then to come back to the first question about Saudi and Iraq. The damage that has been caused to us -- I mean first of all, the $13 billion for the second half of the year does not include Saudi and Iraq. So we're not counting on the business coming in the second half of the year. But really, the damage that's been caused to us was a result of the announcement saying that a former employee entering into an agreement with the intention that the agent pays bribes to officials in those organizations.

So the immediate position that they took is we want to ask a lot of questions and we would like to clarify the situation. We are not banned formally. We continue to do business formally. But whilst those questions were being addressed, that was the time when the awards were taking place.

And it's very unfortunate, frankly, the timing. Had the timing been 2 months before or 3 or 4 months after, it wouldn't have been such a big issue. And for a business like ours, if we were forewarned, if we had the -- if we thought that we're not going to get business, we would have directed our effort elsewhere because we want a bidding pipeline of $30 billion or $35 billion and we look at 25% win rate and that's how we secure our whatever, $5 billion or $6 billion.

But that pipeline was very much in focus. We've been working on it. We actually presented proposals. And in many cases, by the time the awards took place, we were still in the midst of addressing some of the questions that they've had. We've addressed all the concerns. As I said, I'm very hopeful that we will be returning to these markets in the not too distant future.

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

Sahar Islam, Goldman Sachs Group Inc., Research Division - Analyst [7]

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

Sahar Islam from Goldman Sachs. 2 questions, please. Could you talk about the tendering pipeline in Abu Dhabi specifically and some of the bigger awards coming up, whether margins would be different given the size of the awards? And then secondly, on the new market, given the strength of the balance sheet now, would you consider doing inorganic bolt-ons or something bigger?

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

Ayman Asfari, Petrofac Limited - Group Chief Executive & Executive Director [8]

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

Well, Abu Dhabi has a very, very active pipeline. A big part of the pipeline for the balance of the year for us is in Abu Dhabi. They have ambitious plans, both on upstream as well as petchem and downstream. And they also have a massive offshore developments and sour gas developments. We are participating in all of these bids.

So between this year and next year, we are pursuing probably -- between the balance of this year and the first half of next year, we are pursuing something like $10 billion worth of projects in Abu Dhabi. Abu Dhabi traditionally has been a market where we generated lower margins. It's very competitive. And we also have a minority partner with 25%, so we net that out from our margin. But it's steady work and we are pursuing this work.

So on the question of bolt-on acquisitions, as Al mentioned, any new acquisition will have to compete in terms of capital against the other priorities that we set out. If we do any -- if we have any transactions, it has to be extremely accretive and has to be strategic. And for the next, frankly, 12 months or so, it will be small bolt-ons to expand the group. We will not be contemplating anything transformational until such time as the SFO issue is resolved fully.

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

Lillian Starke, Morgan Stanley, Research Division - Research Associate [9]

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

Lillian Starke with Morgan Stanley. 2 questions. In the press release, you mentioned that you were expecting revenue to come down next year. And just looking at the coverage that you have for next year, if you can provide a bit of more color on whether that includes additional contribution on what could come in the second half.

And then the second question I had is, when you look at -- you mentioned some competitors exiting the lump sum business. But then again also, maybe some construction companies that you have been using could be also going into some pressure. Are you worried about as well the contractors, the subcontractors that you may use in terms of construction? And what does it mean going forward?

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

Ayman Asfari, Petrofac Limited - Group Chief Executive & Executive Director [10]

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

Well, I mean on the first question, the -- if we had secured the $2 billion or $3 billion, that's $1 billion revenue of revenue for '20, '21, '22. So we'll obviously try to make it up. And depending on what we have in the second half of the year and the first half of next year, we'll be -- are able to guide for the revenue next year.

But the early signs as a result of not meeting our sales target in the first half of this year, this is a frankly unexpected outcome. We'll hope that, that dip will only be in 2020 and then we'll resume our growth again in 2021, the dip in revenue. But it all depends on our success in the next 6 months in securing work.

In terms of the competition, I agree with you on the kind of lower end where there is low -- there's very limited amount of engineering. We're seeing some competition from the major local construction companies. But on major process plants, sour gas treatment plants, petchem complexes, refining complexes, our competition is still the same. Our competition is the high end because these companies, they will have to have the engineering capability to be able to give the process warranties and the performance guarantees and to stand behind the design, and design is not their forte.

So if it is a project building a pipeline with a pumping station and it's low tech or building a small storage terminal, we would see some of the construction companies come in where they would use an engineering contractor as a subcontractor. But the -- but we don't see them on the major contracts. And a lot of the contracts that we are pursuing right now are quite multibillion-dollar developments. So you mentioned -- I was asked about Abu Dhabi, they have major sour gas fields to develop. They're quite difficult, quite complex. And in that, we go back to the same traditional competition.

Sorry, I'll come back to you. Amy?

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

Amy Wong, UBS Investment Bank, Research Division - Head of European Oil Services, Executive Director & Analyst [11]

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

It's Amy Wong from UBS. My question is on your margins in the Engineering & Construction business. You called out project mix, cost overruns and higher taxes as being the key contribution to that being in the lower end of guidance. Can you just give us a bit more granularity, particularly on the project mix and cost overruns, and how you should expect that to evolve over the next 6 to 18 months?

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

Alastair Cochran, Petrofac Limited - CFO & Executive Director [12]

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

Amy, we are trying to get guidance for 2020 a little early. Look, I think the best indicator for E&C margins going forward is what we've been winning new bids at, which -- so the lump sum business has been consistent with the poor/fair margin we've been reporting. EPCm margins are normalizing a little though, so there's a bit of a drag there. So the project mix will be quite important.

I think the other thing just to bear in mind in terms of future margins beyond 2019 where we guided is the project -- it's the geographic mix. So as always, the margin's heavily influenced by where we win work. And we do expect some higher proportion of business in the near term coming from the likes of Abu Dhabi. So that's probably as much I can say on E&C margin guidance for 2020 before we get to the end of the year, but we will update at the end of the year.

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

Amy Wong, UBS Investment Bank, Research Division - Head of European Oil Services, Executive Director & Analyst [13]

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

The point on the cost overruns, can you give a bit more granular -- where is it happening? Status of the project that it's happening on or is it one big project or a few of them?

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

Alastair Cochran, Petrofac Limited - CFO & Executive Director [14]

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

No. It's essentially the same theme we talked about in -- at the year-end where we've had a number of contracts impacted by the failure of subcontractors where we've had to step in, and that has impacted margin. We've had a number of projects where the schedule's just stretched, so there's no risk of liquidated damages, but we do have to stay on site for longer. But on the whole, our project schedule is on track. It's the -- I mean the bigger impact is the project mix, so just intra-year change in contribution from different projects.

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

Ayman Asfari, Petrofac Limited - Group Chief Executive & Executive Director [15]

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

But Amy, we've talked about that, but we had -- in the portfolio, in the first half of the year, we had a project where we have overdelivered as well. So -- and this is normal because you end up with a project where, towards the end, you're handing over to the client, the client produces a new list of functionalist items, you have to overstay on site, you have additional cost. It happens all the time. And we have -- in the portfolio, when you look at it, we've had things which has overdelivered and things which have underdelivered. On the whole, in this case, we've had a small erosion in margin as a result of the balance, but it happens all the time.

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

Amy Wong, UBS Investment Bank, Research Division - Head of European Oil Services, Executive Director & Analyst [16]

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

Sounds like we don't have to be too worried about it.

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

Ayman Asfari, Petrofac Limited - Group Chief Executive & Executive Director [17]

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

No.

Please, can I -- here.

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

David Richard Edward Farrell, Crédit Suisse AG, Research Division - Research Analyst [18]

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

It's David Farrell from Crédit Suisse. Can you talk about the competitive environment in the renewables business both from new competitors, but also the operators? One of the kind of major players in that market talked to kind of increasing pressure from the operators as we move into a period of 0 subsidies.

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

Ayman Asfari, Petrofac Limited - Group Chief Executive & Executive Director [19]

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

I mean it's true. I mean the -- it is getting more competitive. There is a lot of pressure because the subsidies in that business has gone away, so there's a pressure to come up with more competitive and cost-effective solutions. And as a result of that, we're seeing -- our business in the offshore wind is strictly transmission both high HVDC and VAC -- high...

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

Alastair Cochran, Petrofac Limited - CFO & Executive Director [20]

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

HVAC.

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

Ayman Asfari, Petrofac Limited - Group Chief Executive & Executive Director [21]

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

HVAC. HVDC, HVAC. But that's what we're focused on. We're not in the generation part where we are not able to -- frankly, we don't add a lot of value in the generation where you're just putting the towers and putting the turbines.

So in the HVAC and the HVDC, what we have seen is the market before was dominated by the OEMs. There are 3 or 4 principal OEMs: Siemens avd, Alstom, GE. And now we're seeing also the Chinese come in. But because of the pressure on pricing, the ability to execute an EPC contract in that space where you're reducing your footprint, you're reducing the costs by innovative design is becoming increasingly important.

Now in that business, we have alliance with a number of vendors, and we have executed 2 projects very successfully. The BorWin3 projects now is transmitting about 500 megawatts of electricity. So we delivered both an HVDC and an HVAC project, HVAC in the U.K. in Galloper. We're doing another one HVAC right now in the Dutch waters. And we have -- in the pipeline, we have about 4 or 5 different opportunities in both areas that we are pursuing.

These are projects we are executing effectively from our office in the Gulf. We are fabricating in low-cost locations and then we install in Europe. So we control the costs. The -- it's not -- our formula is not about doing the fabrication in Europe. For us, if we secure $500 million to $600 million worth of business in that space every year, that will be our target frankly. So if we have 2 projects being executed at the same time, that's the size of business that we see.

The other part that we're looking at right now is we've looked at solar, and we have decided not to be in the solar energy as for power. That's -- again, we don't add a lot of value and it's extremely competitive. But we're seeing a number of opportunities for using solar to produce steam for heavy oil production. And we are being invited to look at a number of opportunities in that space and places where replacing steam production from burning gas -- it's a lot more efficient to use solar to produce steam.

So we're looking at these opportunities. These are the 2 areas we're focused on. I mean we've done a very extensive review about the renewables where we can add value. And frankly, we are focusing on these 2 areas and we're not looking at anything else.

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

Mark Wilson, Jefferies LLC, Research Division - Oil and Gas Equity Analyst [22]

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

Mark Wilson, Jefferies. So a lot of emphasis on E&C awards in the second half and still a strategic view on some of the noncore IES assets. Can I just check if the North Sea platform business, that's considered very much a part of the core business? And should we move into a couple of years of low revenues in E&C? Is the North Sea a cash generative business? And quite why does it remain such a core part of the business?

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

Ayman Asfari, Petrofac Limited - Group Chief Executive & Executive Director [23]

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

The North Sea is absolutely a core part of the business. It is growing from a low base. The margins in the North Sea are very, very tight. Frankly, it hasn't been contributing a lot to the bottom line in the last 2, 3 years. We're seeing a very healthy recovery in the North Sea, largely as a result of the asset transfers with new players coming in and spending more on the integrity of their assets. So we are seeing an increase in the level of brownfield projects.

Our well management business is the busiest it's ever been. We are managing many rigs in the North Sea. But I mean I have to caution, it's coming from a pretty low base. So it will increase its contribution to the bottom line, but it will not make up, for instance, for a loss of $3 billion of business in Saudi and Iraq. But the North Sea business will definitely deliver more to the bottom line next year and the year after than it delivered in 2019.

Please?

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

Malcolm Graham-Wood, Hydrocarbon Capital - Founding Partner [24]

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

Malcolm Graham-Wood from Hydrocarbon Capital. Al, in the cash conversion section, you talked about receivables and invoicing and everything else. Does that indicate you think that you're going to get people to pay invoices sooner than they have thought to or the same for receivables? Those things only ever seem to go one way as rather nowhere.

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

Alastair Cochran, Petrofac Limited - CFO & Executive Director [25]

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

Well, our track record of getting people to pay on time is -- it speaks to itself, it's exceptional, to be honest. The real opportunity actually is the invoice cycling time, so the time it takes us from hitting the milestone where we can bill the client to actually getting the invoice issued in final form.

It depends that the lag time on that can be anywhere between 30 to 80, 90 days depending on which country you're in. It's highly, highly admin consumptive. And there are some, I think, simple things we can do to just speed that up. So even taking 15, 20 days out of that, suddenly you start releasing quite a lot of cash to the balance sheet. So that's our primary focus.

As I discussed I think, the last time, the nonbillable WIP, so everything you accumulate prior to being able to bill, is much more sticky and therefore, more difficult to reduce structurally. You essentially need better terms of trade, which will be a function of the market. And you also need to agree change orders as quickly you possibly can. Again, partly because of market conditions, clients have preferred to wait until the end of projects to agree those final commercial settlements, but we're working on those, too.

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

Ayman Asfari, Petrofac Limited - Group Chief Executive & Executive Director [26]

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

Yes, please. Henry.

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

Henry Michael Tarr, Joh. Berenberg, Gossler & Co. KG, Research Division - Analyst [27]

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

This is Henry Tarr from Berenberg. Just a couple of questions. Could you talk about the digitalization plans and programs that you have in place and maybe a couple of examples of how they're helping to reduce cost or improve productivity for the clients? And then secondly, on -- just going back to the subcontractors and the issues there. I wonder whether is this just normal course of business. Or are there any specific issues or commonalities that you're seeing with some of the subcontractors that are causing you issues at the moment?

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

Alastair Cochran, Petrofac Limited - CFO & Executive Director [28]

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

Should I take digitalization?

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

Ayman Asfari, Petrofac Limited - Group Chief Executive & Executive Director [29]

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

Sure.

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

Alastair Cochran, Petrofac Limited - CFO & Executive Director [30]

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

So essentially, there's 2 parts to the digitalization agenda. The first and probably the most important but less glamorous is digitalizing our core business. So all the systems and processes, that will manifest itself in much higher productivity within the business and certainly lower costs over time. But there's a huge opportunity there and a bulk of our dollars will be spent in that area.

The second area is essentially innovating, providing digital tools for clients whereby they enjoy the benefits of increased productivity here as well. So for example, we are using some very simple existing technology to increase productivity on offshore rigs by allowing engineers to communicate quicker and in real time using cameras on helmets, for example, using iPad-like devices so they can communicate much quicker to the relevant authority, be it the supervisor or be it a design consultant onshore.

We're also using digital twins that allows you to plan better for maintenance or indeed practice maintenance activity before you shut down a rig and then do it in as quick as -- quick and possible time. So lots of innovations there, but as I say, the bulk of the spend will be on digitalizing the core.

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

Ayman Asfari, Petrofac Limited - Group Chief Executive & Executive Director [31]

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

And on the -- your question -- the other question was on the subcontractors. To be perfectly candid, what happened in the last 4, 5 years, with the pressure on companies, I mentioned earlier that there has -- that the market has been really a biased market. Many of the construction contractors ended up taking business below cost. And what we are finding is that the construction subcontractors that work for us, many of them are financially weak. And in order for them to be able to deliver, we have to stay on top of the situation. In many cases, we provide the supply of equipment and we provide the supply of material. In some cases, we've ended up taking responsibility for paying their salaries. So they've seen the pressure come in from the clients and it's come to this level.

It's a point of vulnerability in the supply chain and we're very conscious of it. So we've had, for instance, one of our subcontractors on -- in Jazan in Saudi Arabia almost got out of business as a result of the principal being arrested in the [RITS] issue. So for a long time, there were not -- there was nobody who was authorized to pay salaries. We had to step in.

It's something that we're very conscious of. And the management of the construction supply chain is quite critical. And we are, I think, very well equipped to manage that quite effectively. I mean we know these companies, we know their strength and weaknesses and we know their vulnerabilities. We just have to have -- and we have the capacity whenever they don't deliver it to be able to step in and take control.

Any other questions?

Thank you. I mean really, I just want to sum up. We've had -- obviously, we've had a difficult 2 or 3 years. But the company, I'm really proud of the response that the entire management has taken to really protect the business and keep it in the best position to emerge out of the current challenges and to really resume the growth trajectory and to stay as the best-in-class in delivering what we deliver. I mean in the business, we deliver -- we've always had differentiated margin. We have a fantastic delivery capability and we are determined to preserve that.

So when I think back 2 or 3 years ago and where we are today, we've strengthened the balance sheet. We've obviously rebased the dividend, but we're paying the dividend. We've done a lot on enhancing returns. We have done a huge amount to cut costs inside the business, improve the technology. And I mean I remain very confident that the current challenges will be over and -- sooner or later. And we will emerge out of this again as a company that delivers very well for its shareholders and that continues, that goes back to growth both the top line and the bottom line.

So I am pleased where we are. I mean I would have -- like to be able to say we're going to have a fantastic year. But I think considering where we were 2 or 3 years ago, we've done a very good job. And I thank Al and all our management team. And I'm confident we'll emerge out of the growing challenges stronger than ever. Thank you so much.