U.S. Markets closed

Edited Transcript of TRMK.MZ earnings conference call or presentation 20-Nov-19 2:00pm GMT

Q3 2019 Trubnaya Metallurgicheskaya Kompaniya PAO Earnings Call

Moscow Jan 7, 2020 (Thomson StreetEvents) -- Edited Transcript of Trubnaya Metallurgicheskaya Kompaniya PAO earnings conference call or presentation Wednesday, November 20, 2019 at 2:00:00pm GMT

TEXT version of Transcript

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

Corporate Participants

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

* Piotr Dimitri Galitzine

IPSCO Tubulars Inc. - Chairman of the Board of Directors & CEO

* Sergey Alekseev

PAO TMK - Marketing Director

* Vladimir V. Shmatovich

PAO TMK - VP for Strategy & Business Development

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

Conference Call Participants

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

* Anna Antonova

JP Morgan Chase & Co, Research Division - Analyst

* Mitchell Jennings

Sova Capital Limited, Research Division - Research Analyst

* Oleg Petropavlovskiy

BCS Financial Group, Research Division - Metals and Mining Senior Analyst

* Sergey Beiden

Renaissance Capital, Research Division - Research Analyst

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

Presentation

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

Operator [1]

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

Dear ladies and gentlemen, welcome to the conference call of TMK regarding the presentation of the financial results Q3 2019. At our customers' request, this conference will be recorded. (Operator Instructions) May I now hand you over to Vladimir Shmatovich, who will lead you through this conference. Please go ahead.

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

Vladimir V. Shmatovich, PAO TMK - VP for Strategy & Business Development [2]

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

Hello, ladies and gentlemen. Today, we announced our 9 months and third quarter results and happy to conduct this call with you. So I'm here with the top management team in Moscow. And also with us, the management team of TMK IPSCO, our U.S. division.

So generally, our results in 9 months third quarter were more or less in line with our expectations with regards to Russian division performance, and we see that for 9 months, both revenue and especially EBITDA of Russian divisions are up. For example, EBITDA for 9 months up 21%.

However, due to weaker-than-expected performance of our U.S. division and European division, we saw a decline in consolidated revenue and consolidated EBITDA, the latter for 3%. And in third quarter, we saw even steeper declines for revenue EBITDA. However, that was basically something we communicated to the market because in the third quarter, we traditionally used to do our maintenance work in our major plants, especially in Russia. And therefore, we -- this decline was more or less expected.

However, as I said, the decline in U.S. -- in European division performance was somewhat higher than expected. But again, our Russian division constitutes the majority of our economics. So in general, the company continues to be stable and develop as planned.

Speaking of U.S. and the performance, and of course, Piotr Galitzine and our team will talk about it in more details, but we generally experienced rather -- a rather negative situation in U.S. oil and gas services markets, particularly pipes and also the expectations of some of our customers with regards to the transaction that is ongoing, also does not add much positivity to our results. However, we all understand that the key topic with this regard is expected closing of the transaction and this problem should go away with it.

And I understand that's a question that worries most of the investors, basically, there is no major change there. We actively work together with Tenaris, with the regulators to get the first approval before year-end as we announced before. And so as I said, this would alleviate, obviously, negative impact of U.S. -- of results of U.S. division lower than expected.

Again, back to our main business, we saw a number of developments -- the positive developments. [This] October, we signed a memorandum with Saudi Aramco, and we had very positive communications in Riyadh on many fronts. During the conference, I was there in October, and we plan to intensify our cooperation with -- primarily with Saudi Aramco and in various directions, including, obviously, exporting our pipes to this oil-rich country.

Then also, we see a good growth in our premium business, specifically premium connection. So we see the continuing projects in Russia, particularly Sakhalin Energy Investment Company for Sakhalin-2 oil and gas projects, supplying second batch of casing pipes with our premium connections.

So this is obviously example of us going offshore and developing more and more high-tech products, which we think strategically, in mid- to long term would be the main driver of our business. And for example, I must say that shipment of premium connections in Russia increased 16% year-on-year for 9 months of 2019, which again shows that this -- the future and the main driver of our business will be not some commodity business but premium connections.

At the same time, we don't forget about overall efficiency of the business and develop our vertical integration and get benefits from this development as well. For example, we had an important -- we secured an important agreement with Metalloinvest to purchase hot-briquetted iron and strip, and securing the upstream part of our production cycle obviously helps securing provisional costs from rising.

Then also speaking of upstream, we do have some excess steel capacities, as we were saying before, and looking to increase efficiency and utilization of our steel mills, we signed agreements to -- with a Kazakh manufacturer of products for railways to sell the wheels -- to sell the billets for wheels. And this again, would improve our utilization ratios and overall efficiency of the business.

Again, in Russia, in general, we see positive development despite the fact that overall market -- overall strategic market doesn't grow as much, so its single-digit numbers at best. But changing structure of this market and increasing share of premium connection and has been -- and it's been the champion in this area, basically makes us optimistic about Russia. So we see stable demand and stable situation in Russia, and we expect Russian EBITDA to increase in 2019 compared to 2018. As I said, in the U.S. situation is more challenging. And again, I'll let, later, our American team talk about it.

In Europe also, after very positive last year, we see some downturn in market environments resulting in pricing pressure. And so our European division also tried to perform under the circumstances, but its results were lower than we expected. However, they are not that material for the company.

Speaking of financials, we see some minor increase of our debt. Our net debt increased just in the area of 1%, so generally in line. And basically, we -- at the same time, of course, we have the target to deleverage, and certain growth of working capital, while maintaining discipline in CapEx didn't let us to decrease our debt. And obviously, some of the performance of U.S. division also contributed.

That fact, however, we obviously see our net debt-to-EBITDA ratio going below 3 at year-end. So we all focused on solving this issue. In general, the financing schedules and our loan portfolio are well managed so we don't see any major challenges. We do have Eurobond expiring in April. We're considering various ways to refinance it. We have enough of credit lines available.

At the same time, we do notice that Eurobond market was quite active in second half of this year, especially for Russian brands. So as I said, we may use different ways to refinance this debt and don't see any problems related to it.

So again, the outlook, we see improving results for Russian division in 2019. Obviously, U.S. Division and European division are in challenging conditions. But overall, we are quite positive going forward. And obviously, the completion of the deal -- closing of the deal to sell IPSCO will definitely help. And as I said, we do expect the deal to close this year.

So at this point, I'll give the word to our Chief Marketing Officer, Sergey Alekseev. He will briefly talk about Russian market's performance, and then we'll pass the word to our American team.

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

Sergey Alekseev, PAO TMK - Marketing Director [3]

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

Thank you, Vladimir. Hello, ladies and gentlemen. To begin with, the market fundamentals for oil and gas are quite strong, so we have the oil production plus 1.5% compared to the previous year. At the same time, we have plus 2.3% in gas production in Russia.

So the overall consumption in Russia has grown for 1% for the 9 months of this year compared to the same period of the previous year, and the demand was mostly driven by higher demand for large-diameter pipes and quite stable demand for OCTG products, as was mentioned by Vladimir.

So we also see that the mix in OCTG is driven by the growing complexity of drilling and we see it as a trend for more longer laterals. And then we see that the statistics of the market gives us the growth of horizontal drilling as well. We have 53% of horizontal drilling in comparison to the 48% the previous year.

As for the products which we are introducing to the market nowadays, we are quite satisfied with our portfolio of products with innovative products, and we get -- we got quite good and positive feedback from our customers, practically the -- all the Russian oil and gas majors. So we are good in sales of CRA grades.

We are good in sales for our GreenWell products as well as we have introduced to the market the new TMK UP CENTUM connection, 100% efficiency connection, and we see that this product is also -- have a quite good demand and quite good prospective in future.

At the same time, I would like to mention that the third quarter for the Russian pipe market has decreased -- slightly decreased, just about 3%. And this mostly -- that was mostly driven by seasonal factors that usually, the consumption for OCTG and for pipes for oil and gas sector is not so strong as in -- as the previous quarter. But it's okay. The demand was supported by the better market conditions for industrial products and as it was mentioned, quite stable demand for large-diameter pipes.

As for our, let's say, as for our segment of premium products. This was also mentioned so we have quite good growth of consumption for the 9 -- 5 -- for the 9 months of this year. And you need to know that TMK has also increased our market share in the Russian market. Nowadays, according to our estimation, it's very close to 74%, 75%. For the previous year, we have reached the number of 66%, so it also shows that we have quite good results reached in our domestic market.

Speaking about the previous -- speaking about the upcoming period of time, the fourth quarter and the next year, we see quite stable demand from Russian oil and gas sector, and we possess that the company will go on increasing the number of innovative and high-end products, including premium products, and all above-mentioned products, niche products, which I have mentioned, and so we see that the market will be stable and quite good for us. Thank you.

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

Vladimir V. Shmatovich, PAO TMK - VP for Strategy & Business Development [4]

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

Thank you very much, Sergey. And now I pass the word to our American team. Piotr?

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

Piotr Dimitri Galitzine, IPSCO Tubulars Inc. - Chairman of the Board of Directors & CEO [5]

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

Thank you, Vladimir, and good morning, good afternoon, ladies and gentlemen. Concerning the outlook in North America, the situation is likely to remain challenging. Main drivers are sluggish oil and gas pricing and steel price volatility. We've just gone through another cycle of HRC, where it lost half of its price and is now starting to come back perhaps. And for the first time, we are seeing -- for the first time in a decade, we are seeing operators focusing on capital discipline and that means drilling less.

Concerning the 9 months of '18 -- of '19 versus the 9 months of '18, we continue to see this downturn. As I said, sluggish oil price, weakening -- concomitant weakening in drilling activities and high pipe inventories. The KPI that we always look at are the number of months of inventory of OCTG on the ground. That was, until recently, headed for 5 months, which is our new maximum in the sector, 4 to 6 months is the window we are comfortable within.

And the reason it's at 4.6 months is, well, while consumption is steadily going down, so is the absolute amount of pipe in inventory. We are beginning to see E&P companies go down the Chapter XI path and also laying down rigs.

Concerning -- looking at this quarter, the third quarter versus the last quarter, consumption was weaker and pipe pricing keeps dropping. The average number of rigs decreased 7% from the prior quarter and 26% from December 31, 2018. We were at 806 rigs overall at the end of last week.

Overall, the IPSCO business is continuing to experience declines in its operations results as a result of this downturn in the steel pipe industry generally and the distributors' reactions to the pending transaction. That's it for me. Vladimir?

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

Vladimir V. Shmatovich, PAO TMK - VP for Strategy & Business Development [6]

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

Thank you very much, Piotr. So again, as I said, we see a challenging situation in the U.S. However, we are positive about closing the deal this year. And basically, the terms of the deal are unchangeable, and we -- as well as other investors here, public statements by Tenaris that they see -- despite current downturn, they see a long-term perspective, a long-term positive synergetic effect of this deal and are committed to it. So at this point, we go to questions and answers. So please ask your questions.

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

Questions and Answers

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

Operator [1]

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

(Operator Instructions) And we see the first question and it's from Sergey Beiden of Renaissance Capital.

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

Sergey Beiden, Renaissance Capital, Research Division - Research Analyst [2]

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

I just had -- have a couple of questions. The first one is, if I look at your -- for the third quarter, if you look at your staff cost, it rose quite significantly, both in the third quarter and through the 9 months. As we understand it, it could be related with the bonus payments in third quarter. I just want to confirm that that's correct. And do you expect that to be continuing because we haven't seen that bonus injection last year? So what's your expectation about that staff costs going forward?

And the second question is that I'm looking at the non-operating income, which -- expenses, which you booked in third quarter, and that was close to $4.6 billion (sic - $4.6 million) from discontinuing operation compared to 0 last year. So the question is, what are those expenses? I mean, could you more or less clarify what comes into that?

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

Vladimir V. Shmatovich, PAO TMK - VP for Strategy & Business Development [3]

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

Thank you for the questions. We're not sure we understood your second question. What variance you want us to comment on, please?

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

Sergey Beiden, Renaissance Capital, Research Division - Research Analyst [4]

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

Well, I'm looking in your statement that other non-operating income and expenses, and you booked like $4.6 million cost from discontinuing operation in third quarter this year. I just want to -- for you to clarify what it's related with.

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

Vladimir V. Shmatovich, PAO TMK - VP for Strategy & Business Development [5]

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

Okay. Let me start with the second one. These costs that you see in other income expense, which did not exist last year, they were related to the costs related to -- primarily to our transaction to sell TMK IPSCO. So that's -- you can believe that U.S. transactions involve significant costs in paying lawyers and various other consultants that we have. So that's the primary reason for this.

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

Sergey Beiden, Renaissance Capital, Research Division - Research Analyst [6]

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

Okay. But do you expect it to be in the first quarter as well -- in the last quarter as well? Or it's just like a one-off volatile item, which is kind of not difficult to forecast?

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

Vladimir V. Shmatovich, PAO TMK - VP for Strategy & Business Development [7]

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

It's, by definition, one-off item and it all should close in fourth quarter. Maybe some arrears may be paid in the very beginning of first quarter. But I think, generally, it should end with a transaction, of course. And we were even economical because we did not involve any major investment bank in this transaction because we all --- both Tenaris and us understand the industry.

We do -- we may have some banking service related to it. But again, it's not something of typical proportions with M&A fees that banks would charge for that. So we try to be as economical as possible and it is a one-off thing, which will end.

In terms of first question, yes, we did have some -- and again, it's -- you can think of it as one-off thing, some bonus payments to the management related to certain long-term projects that's why it was paid in the middle of the year. But that's the one-off thing and we do not expect anything like that next year or in the future. Next question, please.

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

Operator [8]

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

Then we go to the next question. It is from Jennings of Sova Capital.

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

Mitchell Jennings, Sova Capital Limited, Research Division - Research Analyst [9]

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

I was just wondering if you could comment -- I know plans are to deleverage once the deal is done, but why the increase in debt in the third quarter?

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

Vladimir V. Shmatovich, PAO TMK - VP for Strategy & Business Development [10]

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

Mitch, so the -- let's say, the key reason for -- I wouldn't call it an increase because it's not much of an increase, it's rather the absence of decrease, which we always work towards. It's -- see, there are some items that are -- that do not change much, okay, in this equation, converting the EBITDA number to a net cash flow number. The CapEx, as I said, we were quite disciplined, and we basically stick quite well.

So our target not to exceed $200 million towards the year because we were exceeding it somewhat last year, but then we promise to come back to this ceiling and we try our best to do that. Interest, obviously, the same thing, doesn't change much. So the variable that is changing is working capital. And again, we try to contain it, but in overall, we create the stock of scrap, for example, just to ensure scrap security.

We made certain provisions for coming winter and the stock raw materials. Also we're talking about 9 month's thing. We see -- we saw quite healthy increases in large-diameter pipe production and that involves basically, a lot of working capital and including both long-term cycle to purchase plates and get cash from sales.

So all of this combined led to an increase in working capital, which, again, didn't let us reduce the debt, but obviously, should perform a bit better and should EBITDA be more some dozens of millions of dollars, of course, would have reduced the debt.

We do not expect working capital to increase much going forward. So again, we hope to reduce the leverage by year-end as we state in our release.

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

Operator [11]

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

The next question is from Anna Antonova of JP Morgan.

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

Anna Antonova, JP Morgan Chase & Co, Research Division - Analyst [12]

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

Two questions from our side. First, on the Russian market in Q4. So given the obvious seasonal decline in steel -- domestic steel prices in Russia, what are your expectations for your average realized ruble price -- average selling price in Russia in Q4? Do you expect it to go down in line with the observed decrease in oil costs? That's the first question.

And the second, even when you close it for sale, do you expect any effect from this transaction on your working capital movements in Q4 or perhaps Q1 of next year?

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

Vladimir V. Shmatovich, PAO TMK - VP for Strategy & Business Development [13]

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

Thank you, Anna. Thank you for your question. In terms of steel price increase, yes -- decrease, we see it and it is rather positive to us, especially in the Russian environment, where unlike in U.S., where spot prices for pipes typically reflect the steel fluctuations.

But in Russia, we have very large portion of our business locked in long-term contracts with pricing formulas, and these formulas they smooth those fluctuations. So when steel prices go down, as they did, we benefit. That's why we see that Russian margin, for example, is up at 16% for 9 months.

So yes, this positive effect does translate in improving our bottom line. Of course, this effect will not be forever because sooner or later, the formulas would take this into account. But still, looking at our 10-, 15-year history, we always see that, in general, deflation in steel prices is rather good news for us than bad news. So yes, it's good.

In -- with regards to IPSCO working capital, we do not expect major change. I can't really give you the number right away because we don't produce those balance sheets separate by division and publicly. But given this decline in situation we see, I do not think there is much working capital there. So obviously, there will be a certain decrease, but -- so we'll see. Yes, we will come back to you later with a number. I just don't have it on top of my head. But of course, this working capital will go away. Thank you. Next question.

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

Operator [14]

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

The next question is from Oleg Petropavlovskiy of BCRS Global (sic - BCS Global).

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

Oleg Petropavlovskiy, BCS Financial Group, Research Division - Metals and Mining Senior Analyst [15]

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

This is Oleg Petropavlovskiy from BCS Global Markets. One question from me. Your SG&A expenses, especially general expenses, rose in the quarter, quarter-on-quarter and year-over-year. What should we expect going forward? And why that happened?

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

Vladimir V. Shmatovich, PAO TMK - VP for Strategy & Business Development [16]

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

Thanks, Oleg, for the question. Actually, maybe you didn't hear the first question that your colleague from Renaissance Capital asked. The key reason for this one-off unusual increase was certain bonuses that were paid in the third quarter, as I said, for some long-term program achievements. So it is one-off. We do not expect it to happen anyway near in the future. So it's just one-off thing.

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

Oleg Petropavlovskiy, BCS Financial Group, Research Division - Metals and Mining Senior Analyst [17]

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

So in the fourth quarter, your general and administrative expenses will go down by $20 million, right?

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

Vladimir V. Shmatovich, PAO TMK - VP for Strategy & Business Development [18]

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

Yes, that's correct assumption.

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

Operator [19]

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

At the moment, there are no further questions. (Operator Instructions) As we have no further questions, I will hand back to you.

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

Vladimir V. Shmatovich, PAO TMK - VP for Strategy & Business Development [20]

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

Okay. Ladies and gentlemen, thank you very much for your time, for attention on the state of business. So yes, we had some headwinds in U.S., in Europe. However, situation is quite stable and positive in Russia. We are looking into -- at completing the U.S. transaction.

Obviously, after U.S. transaction, as we've said before, we will have some revision of our strategy. We'll think where do we go next? What kind of initiatives we have. But in the short term, obviously, you'll see a very positive result on -- hopefully, long-term as well on all our main indicators.

So again, thank you very much. If someone didn't have chance to ask a question, feel free to contact our Investor Relations, they'll be happy to answer those. So thank you very much. Take good care of yourselves. Good bye.

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

Operator [21]

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

Ladies and gentlemen, thank you for your attendance. This call has been concluded, you may disconnect.