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Edited Transcript of TRMK.MZ earnings conference call or presentation 16-Aug-19 1:00pm GMT

Half Year 2019 Trubnaya Metallurgicheskaya Kompaniya PAO Earnings Call

Moscow Sep 4, 2019 (Thomson StreetEvents) -- Edited Transcript of Trubnaya Metallurgicheskaya Kompaniya PAO earnings conference call or presentation Friday, August 16, 2019 at 1:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Peter Dimitri Galitzine

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

* Vladimir V. Shmatovich

PAO TMK

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Conference Call Participants

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* Anna Antonova

JP Morgan Chase & Co, Research Division - Analyst

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Presentation

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Operator [1]

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Ladies and gentlemen, welcome to TMK's Second Quarter 2019 Financial Results Conference Call. Today's speakers are Mr. Vladimir Shmatovich and Mr. Piotr Galitzine. Sir, please go ahead.

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Vladimir V. Shmatovich, PAO TMK [2]

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Good morning, and good afternoon, ladies and gentlemen. So we'll begin our conference about announcing second half and first -- sorry, first half and second quarter results. Thank you for your attention.

So our conference will be structured in the following way. I'll do the introduction, and also in my introduction, I'll mention the main highlights for the Russian division as our Chief Marketing Officer, Sergey Alekseev, is on vacation. And then we'll pass the word to our U.S. team, led by Chairman and CEO, Piotr Galitzine. And then we'll go to questions and answers.

So speaking of second quarter, first half 2019 results, we should say that under the circumstances in the global markets, we are rather pleased with these results. We beat consensus for EBITDA by about $10 million and delivered $195 million EBITDA for the second quarter, which is positive.

Also, we improved our margin -- EBITDA margin to 15%, which, again, is a very positive sign. We achieved that mainly thanks to performance of Russian division, which demonstrated a quite remarkable leap. Volumes were 10% up, but even more importantly, revenues was 10% up and adjusted EBITDA was up over 20%, which is a very good result. And these helped us offset certain negative trends that we see in the U.S. divisions, where we saw the volumes, quarter-on-quarter, down 11%. And financials had an even more negative impact as you could see from our financial statements, which, again, resulted from certain headwinds in the U.S. market, which our U.S. team will describe in more detail.

So also due to structural sales and both domestic and exports, we had certain increase in working capital while maintained very good discipline on CapEx. And also exchange rates, and that's the main factor, was not favorable to us in terms of sizable debt expressed in U.S. dollars -- translated into U.S. dollars. And that resulted in certain debt increase. However, we view it as temporary because right now, we see Russian ruble going the other way, a weakening, which may help to reverse this trend. And besides, again, we are quite positive for our EBITDA generation, and therefore, we expect to improve our metrics and still target net debt to EBITDA around 3x by year-end.

Speaking of major events, we have to note that our company had a new CEO, Mr. Igor Korytko, who previously served as Vice President for Efficiency Management. So he started on -- in June, and he is going to continue all strategic initiatives, including those for digital transformation of the business. And we are certain that, that will help strengthening the company's position. But in general, it was a quite smooth and clean effect of change in management. So we have, basically, kept all positives from previous periods. And this is a rather smooth and a planned change in the company.

Also, quite importantly, in June, we signed a major agreement with Novatek. That was signed in St. Petersburg. And we had certain significant volumes of OCTG to be delivered to -- primarily to Yamal fields of Novatek and a vast majority of this OCTG premium connection. Also, we had formula-based pricing built in into this agreement. So as we were stating before, we are very pleased with the development. And that, by the way, contributed to one of the main factors of success of Russian division, which is increasing -- improving the product mix and increasing the sales of our premium connections.

So overall, speaking of -- in little more details of the Russian division, we see that the main markets, like OCTG market, probably is going to be more or less flat for this year. And of course, we parallel the market trends as we are the largest player by far in this field. We see somewhat more challenging situations in line pipes due to the fact that there are not that many greenfield oilfields being developed, therefore, less of a line pipe is needed to connect them to major long-distance line pipes and inside the field.

With exports, while we do not see much of a drive on the CIS market, nevertheless, we see very good signs on other markets, including Middle Eastern markets, in a large sense that, that would include such countries as Egypt or India, where we had some good tenders won and pipes delivered. And as I said, the premium connection business is doing quite well. We primarily note our positive developments in gas fields because gas is not subject to Russia OPEC-plus agreements. Therefore, we don't have any external restrictions or commitments with regards to gas production.

And at the same time, the Power of Siberia pipeline construction is near the end -- its end and must be filled with gas. Therefore, gas fields designated to this purpose, such as Chayanda and Kovykta fields, are being developed by Gazprom, and we are the key -- practically the only supplier of premium OCTG there. And again, we're very pleased with -- both with margins and with the relationship with Gazprom in this area. And we keep introducing new products, such as Centum connections for our casing pipes, which is going quite well. So all of it basically brings us to strengthen our market's position in premium connection in Russia, way over 70%. And that's basically to keep our well strategy going forward, where we see a sort of flattish or not actually a growing market in absolute terms, but we have said that -- this again by a better product mix and new high-tech product development.

Our large diameter pipes as several last years -- same as in several last years continue to be a challenging segment. However, we do see larger volumes expected for this year compared to previous year -- years. And overall, as I said, all of this helps offsetting negative trends that we see primarily in the U.S. and basically will help us strive to get closer to our last year results in terms of EBITDA.

European division, which did fantastic last year, now also had certain headwinds in Europe, primarily in automotive industry and other key markets. So we did see the volumes quarter-on-quarter slightly dropping by 6%, and so did the performance revenue. EBITDA is more stable, almost flat, but, of course, we expected a better performance. But we, as I said, experienced certain headwinds from macro side.

Overall, we traditionally have somewhat weaker third quarter due to certain seasonal factors and planned maintenance as we usually do. And if you follow our company, you are used to that. So third quarter numbers may be somewhat lower in all the divisions. However, we do see the light at the end of the second half, and we expect fourth quarter to be much better.

And as I said, we have our -- confirmed our ambitious goals for the whole year, again, despite the situation we are facing in the U.S. In terms of debt, I already said that's temporarily increased mainly due to exchange rate situation. But at the same time, our average borrowing rate is down. And we, again, enjoy excellent relationship with our main creditors, and we do keep our rating B+ in S&P with positive watch. And Moody's B1 -- sorry, stable, B+ (Stable) with positive watch. Hopefully, it's very slippery, so we get some upgrades. And Moody's B1 (Stable). We see slightly decreasing U.S. dollar proportion of our debt, which is again positive. We have the goal to gradually reduce this proportion to reflect a larger portion of ruble revenues.

In terms of, again, debt maturities, we are quite comfortable with the situation. We do have our Eurobonds maturing second quarter next year. But we already have all the resources now and all the agreements with the banks to redeem the bonds. We do notice a quite positive environment to realize this situation on the Eurobonds markets for Russian issuers. However, as you can understand the necessity to issue or not issue, Eurobonds would largely depend on structural debt, which would depend on the outcome of our U.S. transaction.

And now I guess the last but not the least, we continue to be optimistic on closing of sale of IPSCO. We are working with the Department of Justice in the U.S. The work is quite constructive. We are in good dialogue, and we recognize that time is needed for now U.S. officials to analyze all the data that ourselves and the purchaser keep submitting. But as I said, we do expect positive results. It is likely that this result will happen in fourth quarter. And here, we're on the same page with our partner, with the buyer, Tenaris, and the chairman who targeted this time to close the transaction in his press conference that Tenaris held recently. So as I said, we are quite positive -- have quite positive expectation on the outcome of this deal.

And of course, this deal would be a trigger or a main factor for a number of things, like for us thinking of a strategy, what to do next and many other things, including the structure of debt and other things. But we obviously intend to direct the proceeds from the sale to reduce the debt, and at the same time, we'll rethink our strategic steps to go forward.

So these are the main highlights for TMK's results of second quarter and first half. And now I pass the word to our U.S. team, led by Piotr Galitzine. Piotr?

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Peter Dimitri Galitzine, IPSCO Tubulars Inc. - Chairman of the Board of Directors & CEO [3]

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Thank you very much, Vladimir. Good morning. Good afternoon. As Vladimir pointed out in the American division, the market situation remains challenging with oil stuck below $60, steel price volatility, especially HRC, a slowdown in drilling activity and operators focusing as never before on capital discipline, all resulting in the lower pipe demand, inventory edging up and pressure on pricing.

Looking at the market in more detail. If we look at the second quarter of this year versus the first quarter, the U.S. OCTG consumption was weaker, again a slowdown in drilling activity, the average number of rigs increasing -- decreasing 5% from the last quarter and 10% since the end of the year or the beginning of the year, and again capital discipline for the first time in a long time. The rig count is down 10% also over the first half.

In terms of comparison of first half 2019 to the previous year, again, an impact of oil price volatility or weakness rather, weakening drilling activity, and pipe inventories already edging up to 4.6, 4.7 months of OCTG on the ground.

And if you recall, several sessions ago, we said that the typical 4- to 6-month window for OCTG inventories on the ground does not seem to apply anymore because the drilling has become more of a manufactured product and manufactured service, and supply chain has tightened up. So we think now that this window is 4 to 5 months. So at 4.6, 4.7, we're getting close to the upper end, and we're seeing that softness.

Overall, in terms of pricing, over the first half for OCTG, the market has seen a reduction of 8%. We've done better than that on both seamless and welded, but we have seen reductions, nonetheless.

Moving over to the line pipe. 2 or 3 telecons ago, I was talking about a boom for our -- in demand for our line pipe under 16 inches. This was then at that time based on people throwing a short pipeline to bigger pipelines where there might have been some capacity unused. This period is now behind us and what we're seeing is a lot of pipeline activity buildout, but it's all in way larger than 16 inch. So the demand is now reduced. However, the coating plant is fully onstream and a big contributor to profitability. This has opened up to us line pipe contracts with bigger volumes and better profitability, thanks to the FBE, the fusion bond epoxy, and the ARO, abrasive resistant -- abrasion-resistant overcoat that we're seeing. And we're seeing much more ARO, which is thicker and more powerful than we thought. Initially, we were talking about 5% of the business will be ARO. It seems to be closer to 1/4 of the overall business.

In terms of the 2 main groups of pipe production, seamless is slightly up Q-on-Q, and welded is down due to sustained high hot-rolled coil costs, and prices drifting down have the effect, rather than prompting buyers, especially line pipe buyers, to rush into the market and buy. It has the effect of making them hold back, strangely enough, because they want to be sure that they are buying when the drift to downwards is finished. We think that we are now at that point.

And that is it for the overview of the American division. Vladimir, back over to you.

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Vladimir V. Shmatovich, PAO TMK [4]

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Thank you very much, Piotr. So basically, that concludes our -- first part of our conference. And again, it pays off to be a global company. Sometimes, when one division has headwinds, the other does better. So we remember many instances where Russia was sort of a -- in a flattish or stagnating mode and the U.S., especially last year and some other years, were sort of locomotive for our growth. Now it's the other way around. So we are generally, if you take all our indicators and compare to our main competitors, are quite stable in our performance and take some of the work from management and our employees.

So that concludes the presentation. And we are now open for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Anna Antonova from JPMorgan.

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Anna Antonova, JP Morgan Chase & Co, Research Division - Analyst [2]

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Just a couple of questions from our side. First, there had been a significant working capital buildup in the first half of this year, and it seems that the majority of that was driven by increased advances to customers. Could you please outline what have been the major drivers behind that? And what working capital developments can we expect in the second half of this year?

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Vladimir V. Shmatovich, PAO TMK [3]

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Thank you very much for your interest and for your coverage. Yes, we did see certain working capital increase. And there is not a single factor explaining it. We did get some advances from our major customers in Russia at the end of the year. So that's one of the reasons. So we had to work on these advances to deliver the product, which, of course, was driving our -- both our inventories and receivables eventually. We, of course, are not happy about it. But however, that helps sustaining our sales and EBITDA in Russia. In second half, of course, you may recall the efforts to reduce it. But again, being conservative, we'd rather target it flat. So we don't expect many for the growth. But probably, again being conservative, we'd rather guide to a flat working capital, but coupled with EBITDA earns and cash flow earns, that would help us to reduce the debt and deliver on all targets.

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Anna Antonova, JP Morgan Chase & Co, Research Division - Analyst [4]

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And the second question is, you've guided in your press release that you expect net debt-to-EBITDA target of around 3 by the year-end. Does this guidance include the successful closure of IPSCO sale?

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Vladimir V. Shmatovich, PAO TMK [5]

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It -- we would say that this does not include the IPSCO sale because, obviously, the volume of transaction, $1.2 billion, being deducted from the debt will deliver much stronger net debt-to-EBITDA ratio. But again, it's quite a challenging target. But again, we do see certain weakening of ruble that is happening. So we also include it in our calculations. So 3x without U.S. deal, it is a stretch target. But as our CEO said in his quotes, that's what we are aiming for.

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Anna Antonova, JP Morgan Chase & Co, Research Division - Analyst [6]

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Understood. And the final question is, the Russian steelmakers have been guiding that domestic steel prices have been holding pretty well so far in Q3. Have you already seen increased cost pressures from elevated domestic steel prices?

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Vladimir V. Shmatovich, PAO TMK [7]

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To be frank, no. We don't see any major steel price increase trends in Russia at the moment. They rather go sideways, rather flat. So maybe in some other segments where our partners from steel companies work, they see better trends. But in terms of scrap and certain flat products that we use for welded lines -- welded pipes, we do not see any major inflationary trends at the moment.

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Operator [8]

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(Operator Instructions) We have no further questions. Dear speakers, back to you for the conclusion.

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Vladimir V. Shmatovich, PAO TMK [9]

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Okay. So that seems to be quite short compared to other press conferences. So we hope we did answer your questions during our presentation. Again, if someone is coming up with a question now is we can answer it. But while you are thinking, again, just a quick recap, we are very pleased with the development of Russian division, both on absolute terms EBITDA and margins. We do see progress in high-end products. We do see challenges in U.S., to a less extent in Europe, but hope that Russian performance will have circumvented. We are concerned with temporary debt increase and growth in working capital. And we have plans, and we're working towards reversing these trends and getting to our ambitious 3x debt-to-EBITDA target by year-end. And again, we are positive about closing of the deal to sell IPSCO in fourth quarter.

So if you do have a chance to ask a question, you come up with a question later, you're welcome to contact our Investor Relations team. We'll be more than happy to answer them. So at this point, thank you very much for your attention. Goodbye.

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Operator [10]

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This concludes today's conference call. Thank you all for your participation. You may now disconnect.