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Edited Transcript of TRN.MI earnings conference call or presentation 30-Jul-19 3:00pm GMT

Q2 2019 Terna Rete Elettrica Nazionale SpA Earnings Call

Rome Aug 3, 2019 (Thomson StreetEvents) -- Edited Transcript of Terna Rete Elettrica Nazionale SpA earnings conference call or presentation Tuesday, July 30, 2019 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Agostino Scornajenchi

Terna - Rete Elettrica Nazionale Società per Azioni - Group CFO

* Luigi Ferraris

Terna - Rete Elettrica Nazionale Società per Azioni - CEO, GM & Director

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Conference Call Participants

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* Harry Peter Wyburd

BofA Merrill Lynch, Research Division - VP and Junior Analyst

* Javier Suarez Hernandez

Mediobanca - Banca di credito finanziario S.p.A., Research Division - Research Analyst

* Meike Alina Becker

Sanford C. Bernstein & Co., LLC., Research Division - Research Analyst

* Stefano Gamberini

Equita SIM S.p.A., Research Division - Analyst

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Presentation

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Operator [1]

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Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to today's first half 2019 consolidated results conference call. (Operator Instructions) I must also advise you that this conference is being recorded today, Tuesday, the 30th of July, 2019.

And I would now like to hand the conference over to your speaker today, CEO, Luigi Ferraris. Please go ahead.

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Luigi Ferraris, Terna - Rete Elettrica Nazionale Società per Azioni - CEO, GM & Director [2]

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So good afternoon, everybody, and welcome to Terna's 2019 interim results presentation.

Before moving to the figures, let me share with you some relevant trends of the Italian energy market. The National Integrity Energy and Climate Plan recently approved in Italy set ambitious targets towards full decarbonization. More specifically, it foresees renewable shares at 30% on total energy consumption and at 55.4% on total electricity consumption to be achieved by 2030. Also, traditional thermal generation is scheduled to reduce with the coal phase-out expected by 2025.

To support the path towards this new energy scenario, all the relevant energy players have to work systematically and entire coordination to immediate implement, set direction aimed at ensuring security of supply, quality of service, efficiency and sustainability of the system. More specifically, from a TSO standpoint, the relevant main key enablers for the energy transition are the following: grid investments, storage, long-term price signals and flexibility market tools.

Regarding grid investment, as you know, our domestic regulated CapEx set with a strategic plan foresees over EUR 6 billion investment in the next 5 years to support grid development, defense plan, asset renewal and efficiency. As far as storage is concerned, there are a lot of opportunities in our country to strengthen hydro capacity and work for the development of electrochemical storage. Terna is willing to act as market facilitator since the system really needs these assets.

Regarding long-term market price signals, the challenge is to foster the development of new flexible and efficient power capacity to ensure system adequacy. In this respect, the Italian government recently approved the capacity market moves with the first option for 2022 and 2023 capacity to be activated by the end of this year.

Regarding the flexibility, we have already introduced pilot projects to widen the resources available in the ancillary service markets and we are working with the regulator on the ancillary service market report. Within this framework, Terna is playing and will continue to play a key role to enable this transition that, as you have appreciated, is currently in a very advance stage in the country.

Let me now focus on the electricity demand evolution. Turning to the next Slide i.e., #5. In the first 6 months of the year, national demand was of about 157 terawatt hour, more than 35% of it covered by renewable resources. Regarding national net total production, it stood at about 139 terawatt hours with a strong increase registered in wind and solar production i.e., plus 16% and plus 10%, respectively.

Moreover, in the last week, Terna registered new peaks of demand that stood at about 58 gigawatts. This is clearly the demonstration of how in the future it will be more and more relevant to manage these peaks and develop high-quality grid services.

Now let me give you an overview of some strategic updates on Chart #6. After the Strategic Plan Presentation in March, we are now focused on implementing our strategy to accelerate the sustainable growth, being well on track to deliver our plan. With this in mind, we reaffirm our strong managerial commitment in executing the plan. Specifically, regarding domestic regulated activities, we confirm that these remain our key priorities to play our central role in the ongoing energy transition. Indeed, the capital levels -- the level of the period demonstrates our strong commitment to turn plans into delivery.

As far as domestic nonregulated activities are concerned, we are continuing to refocus these activities developing new value-added products and services both in the energy solution field as demonstrated by the signing of the MOU with The Mobility House for the development of the sustainable mobility and in-connectivity with an enhancement of the dark fiber business.

Concerning international, our second line in Brazil, Santa Lucia entered into operation in May. The construction of this 355 kilometers long line in Mato Grosso lasted 19 months involving more than 30 companies and 1,000 technicians, and minimizing the environmental impacts of other projects. And of course, we are also working on other projects, which we'll fill in what we have to do in the 5-year plan.

Regarding our enabling factors and I am on Chart #7, innovation and digitization remains fundamental in the deployments of our plan. In this regard, the digitalization of lines and substation is going on as planned. Moreover, in April, we inaugurated the first innovation hub in Turin. This hub will be focused and IoT and advanced monitoring processes for energy transmission systems and will become a think-tank for creation, development and real testing of new ideas. Our goal is to launch new innovation hubs in all our main transmission operating areas.

Regarding our people, we are focused on the reskilling and upskilling process. In this regard, the Terna Go Digital project is being carried on also in 2019 with a broad and structured training program aimed at reinforcing digital competences.

Let me also highlight that we continue to leverage the interaction with local communities; and indeed, in the first half of the year, on top of the daily regular meetings that with local community, we also organized 13 mixed big meetings in 6 different regions across all the Italian territory to talk about the key projects of our plan.

From a financial standpoint, we are continuing to enhance our financial structure. And in this regard, let me remind you, our recent successful issuance of new EUR 500 million Eurobond made in July. All these managerial actions are already translating into positive economic results. In this regard, let me now spend a few words on the key numbers of the period turning into the next Slide, #8.

First half 2019 results show positive dynamics in all the main lines of the profit and loss and confirm the strong CapEx acceleration. As you may appreciate from the chart, net income grew at EUR 367 million while group CapEx stood at EUR 396 million, respectively, 2% and 17% higher versus last year. Moreover, group revenues and EBITDA were up by 3% and 4%, respectively, which means EUR 35 million and EUR 31 million higher than last year.

More specifically, regarding CapEx, the main projects of the period are the interconnection between Italy and Montenegro and Italy and France expected to be finalized by year-end 2019 and first half 2020, respectively, as planned. The Capri and Sorrento interconnection and the rationalization of the Rome metropolitan area. It is worth also mentioning that in the first half that, we completed the dismantling of 193 kilometers of old overhead lines and finalized 26 kilometers on new invisible underground lines.

This positive set of results represents a solid base for the full year and the best demonstration of Terna's capability to accelerate on investments ensuring, at the same time, value creation for all our stakeholders. These results are fully consistent with the targets for the full year provided in 2019-2023 Strategic Plan presentation of last March.

Now I'll leave the floor to the CFO, Agostino Scornajenchi for a deeper analysis of the figures. Agostino?

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Agostino Scornajenchi, Terna - Rete Elettrica Nazionale Società per Azioni - Group CFO [3]

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Thank you, Luigi, and good afternoon, everybody. Let's start with revenues and analysis. Total revenues in the first half of 2019 increased by the 3.3% reaching EUR 1,098 million, up by EUR 35 million versus the same period of last year. This growth was mainly attributable to regulated activities, which contributed for more than EUR 25 million. As far as nonregulated and international activities are concerned, the contribution were respectively, EUR 4 million and EUR 5 million higher versus the same period of 2018, thanks to the higher Tamini's turnover and to the impact of the 2 Brazilian lines entered into operation.

Let's go into detail with the regulated and nonregulated revenues evolution moving to the next Slide. Regulated revenues reached EUR 1,005 million, EUR 25 million better than last year. The increase was mainly due to the tariff evolution consequence of the 2019-2021 weighted average cost of capital update that was set by the regulator at 5.6% at the end of 2018. Other revenues increased by EUR 1 million substantially in line with last year.

Nonregulated and international revenues reached EUR 93 million, EUR 10 million higher than last year, mainly thanks the increasing contribution from Tamini and the already mentioned projects in Latin America.

Now let's go through operating cost analysis on Page 12. As shown in the chart, total operating costs stood at EUR 252 million with a slight increase of EUR 4 million versus last year. The increase was attributable to nonregulated and international activities as a consequence of higher volumes of activity, while regulated OpEx registered a decrease.

For a deeper analysis of the group OpEx components, let's turn to the next slide. Starting from regulated OpEx, we reported EUR 190 million, EUR 3.3 million lower than last year, also as a consequence of the benefit generated by the efficiency program announced in the Strategic Plan presented in March. Regarding nonregulated and international, operating expenses amounted to EUR 61 million, EUR 7 million more than last year, mainly due to the increasing volume related to Tamini and the full operation of the 2 Brazilian projects.

Let me now analyze the EBITDA moving to the next slide of Page 14. Considering the above-mentioned effects, group EBITDA reached about EUR 846 million, EUR 31 million better than last year. We registered a positive EBITDA contribution both from regulated and international activities, which grew by EUR 29 million and EUR 4 million, respectively, versus last year.

The increase was mainly attributable to higher revenues coming from weighted average capital cost uptake for regulated activities. International benefited from the higher contribution coming from the full operation of the lines in Brazil.

Let's have a look to the lower part of the P&L turning to the next slide. Depreciation and amortization amounted to EUR 289 million. The increase versus last year was mainly due to the impact of new assets becoming operational. As a consequence, EBIT reached EUR 558 million, 1.8% better than first half 2018. We reported net financial expenses of EUR 39 million, EUR 3.9 million lower than the same period of last year. Taxes stood at EUR 150 million with a tax rate of 29% almost in line with year-end 2018.

Consequently, the group net income reached EUR 367 million, EUR 6.4 million, better than last year.

Let's move now to CapEx analysis at Page 16. For the first 6 months of 2019, total CapEx amounted to EUR 396 million, 17% higher than last year and in line with the full year CapEx set with the Strategic Plan. We invested EUR 343 million in regulated activities, of which about 9% related to projects that might be eligible to the 1% [input-based] incentive, as they have been included in the current incentivized categories.

Among CapEx categories, developmental CapEx stood at EUR 138 million, asset renewal and other regulated CapEx worth EUR 175 million, while the sales CapEx amounted to EUR 29 million. Other CapEx stood at EUR 54 million, which includes capitalized financial charges and other investments.

Regarding the net debt and cash flow analysis. Net debt at the end of the period was EUR 8,294 million, EUR 394 million higher than 2018 year-end. As a consequence of the CapEx acceleration made on [international rate], the final 2018 dividend paid in June and the progressive reabsorption of some regulatory pass-through items. In the period, we generated an operating cash of EUR 586 million, thanks to wage, we were able to more than cover the CapEx spending of the period.

Let's now make a deeper analysis on our debt profile at Page 18. Our financial structure remains solid, despite the CapEx acceleration. The duration of 5.1 years and the level of fixed to total gross debt continue to make us maintain a solid balance sheet. On top of this, let me just remind you about the EUR 500 million Eurobond issued on the 18th of July already mentioned by Luigi. As follows, the launch made in [April] of the green bond for additional EUR 500 million with the cost of 1% as well as the ESG linked revolving credit facility for EUR 1.5 billion negotiated and approved in the period.

Let me remind that the latest bond will pay a coupon of 0.125%, the lowest for an Italian corporate bond with a tenor above 5 years. Overall, we can say that as a consequence of the debt management activities delivered in the first half, we may expect that 2019 cost of net debt will remain substantially in line with year-end 2018 level, despite the higher debt level to serve the CapEx acceleration.

I will now leave the floor to Luigi for some closing remarks.

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Luigi Ferraris, Terna - Rete Elettrica Nazionale Società per Azioni - CEO, GM & Director [4]

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Thank you, Agostino, and let me now share with you some closing remarks. As you can appreciate in this chart, we confirm our efforts on domestic regulated activities to accelerate on CapEx in order to assure the full implementation of new renewable generation sources into the Italian system. Nonregulated activities will continue to provide a supporting contribution to the business enabling us to create innovative and new value-added services to support our core activities.

On international projects, execution will continue to be key. In this regard, let me confirm you that Uruguay project completion is expected by the end of this year, while Peru is expected to be finalized next year.

Finally, let me conclude by asserting that the first half results that have just been illustrated represents a solid base to consider our full year guidance as fully feasible and robust. And in particular, these results shows the company's capability to deliver growing CapEx without affecting our efficiency targets.

Thank you for your attention and we are now ready to open the Q&A session.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Your first question comes from the line of Javier Suarez from Mediobanca.

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Javier Suarez Hernandez, Mediobanca - Banca di credito finanziario S.p.A., Research Division - Research Analyst [2]

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Three questions from my side. The first one on the factors of the Italian electricity market. I was wondering if you can update us on your latest view on how the new capacity market, the reforming the ancillary service market and new storage facilities may impact the structure of the markets from a TSO point of view? I think that any comment on that could be very helpful.

The second question is, hearing on your CapEx acceleration, it seems that the company is -- does see plenty of opportunities of continuous investing on new market structure -- on new electricity market structure as a consequence of the energy transformation. And it is frustrating that the company is more interested in domestic CapEx and increasingly less interested in scouting for opportunities in Latin America. And as a consequence of that, the company could reconsider its ambitions in Latin America.

And the third and final question is on any regulatory update or discussion with the regulation that you could mention on the possible remuneration for the work in progress that is still pending some recognition.

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Luigi Ferraris, Terna - Rete Elettrica Nazionale Società per Azioni - CEO, GM & Director [3]

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Thank you, Javier, this is Luigi. Well with regards to your first question, of course, we are working with the introduction of the new capacity market because of our role of system operators which means that, as you know, we are in charge of ensuring the continuity of supply and the continuity of the adequacy of the system. And we consider the adequacy -- the capacity market or the capacity mechanism as one of key tool to enable this transition.

On top of the capacity market you know that we said that we have to launch a set of investments, which is part of our current business plan. Let me remind you as I said during the presentation that we are committed to invest EUR 6.2 billion just in Italy and also we are -- we consider one of key action to be implementing the increase in the storage capacity both hydro and electrochemical.

So if we look at this key enabler, which are the investments in development is the grid, the storage capacity, the capacity markets, and of course, what is related to the digitalization and to the innovation, which is key in also developing new services to serve the grid, I think we are moving in the right direction to enable this transition in continuity without adding any impact on the system.

When it comes to our profit and loss and to our numbers, of course, the driver of our CapEx growth is what I said, which is the change in the system and the fact that we have to accompany this decarbonization process.

The CapEx acceleration in Italy is the outcome of the evolution of the system, the electricity system, I would say, in Italy, but also Europe because we are part of a major changes, which is crossing all Europe, which is calling for additional investment in grid, in network, in interconnection, in equipment to support the grid stability. The more we go ahead with the implementation of renewables and also investment in storage capacity as I said. Of course, we have to deal with a new style for functioning of our grid and that's why we have also allocated EUR 700 million of CapEx to innovation and digitization out of this EUR 6.2 billion.

Having said that, I confirm what I said in the strategic plan. The capital allocation in South America is equal to EUR 300 million in terms of CapEx to be done from now to the end of the plan, and this is confirmed. The name of the game in South America will be, first of all, to finalize the construction and the implementation of the Uruguay project and Peru project as I mentioned. And of course, on top of that, there will be additional CapEx to reach the EUR 300 million CapEx allocation.

So no change with regards to this strategy. We have lots of investments to be done in Italy and we think that our role is key to enable this transition. And of course, in terms of basis, we consider this also as an opportunity, thanks for the stability in the regulation as we commented many times.

With regards to the last question, which is, if there are any discussions going on or we are on the way for remuneration? As I said, also in the past, I can't confirm to you that we expect an issuing of consultation document pretty soon and we do expect that by the end of the year, there might be some signal in this regard. We think that there are now the conditions to have an effect on the remuneration on the work in progress, but of course, we'd like to have the authority working in this regard and we wait to call for the outcome. The iterations are going on. We continue to be confident with regard to this point.

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Operator [4]

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And your next question comes from the line of Harry Wyburd from Bank of America Merrill Lynch.

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Harry Peter Wyburd, BofA Merrill Lynch, Research Division - VP and Junior Analyst [5]

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Some of my questions have already been answered. Just two. The first one is very easy and you've more or less already answered it, but could you just as black-and-white confirm that you are reconfirming your EPS guidance of EUR 0.36 and your EBITDA guidance of EUR 1.73 billion for the year? And then the second one, maybe 1 or 2 years early, but there has been a trend for regulators to tackle methodology for new regulatory periods more and more in advance nowadays. Thinking ahead to when your current WACC parameter periods ends at the end of 2021, what's your view on the time line? When are we -- when are you expecting the first views from the regulator in terms of what the framework may be? And do you think -- are you expecting it to change structurally? Or do you think we'll stick with the current formula?

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Luigi Ferraris, Terna - Rete Elettrica Nazionale Società per Azioni - CEO, GM & Director [6]

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Well, when it comes to the full year guidance, you had said, at this stage I think, after [3] months, after the presentation of the business plan, we can only confirm our target, and I think this is the most serious thing that we can do at this stage.

The first 6 months results are pretty solid, so we are confident with regards to the feasibility of our targets. And of course, our task is always to work in order to better. But I think now we are -- we see it already in very, very positive and comfortable results at the end of the first 6 months.

With regard to the consultation related to the weighted average cost of capital, of course, I mean we have just been confirmed with regards to the weighted average cost of capital a few months ago. Normally, normally, I would say that there is a consultation document related to the new determination that WACC will be released in 2021, not before as usual in the last 20 years.

If I judge the behavior of the authorities, it looks to me that up to now, they are favoring continuity in the regulation, which I think is very important for us and not only for us, for all the players since we are going to face a sizable increase in the investments in all the sector, in particular, into the grid and international sector. So I think that you should be confident that there will not be surprised. Of course, through the consultation document that will be released in 2021.

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Operator [7]

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Your next question comes from the line of Meike Becker from Bernstein.

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Meike Alina Becker, Sanford C. Bernstein & Co., LLC., Research Division - Research Analyst [8]

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I have two. One is on the debt financing. If we think about the lower for longer environment and we assume that the rates stay where they are below. Is there any reason why we should assume that the recent financing rates you have achieved should go up? And the second question is on -- do you see any risk to your overall investment plan, if we think or assume that maybe the coal closures are delayed or the renewable [source] is going to be delayed in Italy? So if we see delays on this side, is there then possibly a risk for delays to your investments as well?

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Agostino Scornajenchi, Terna - Rete Elettrica Nazionale Società per Azioni - Group CFO [9]

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So regarding the line of debt saying after the decision we've taken and to top the market 3 times during these 12 months with 3 different bond events with the ventures rates and the latest one close to 0, this is something that, of course, will support our long-term view on our net cost of debt. If you look at the 1.6 average cost of debt in business spend rise and as you can imagine, it has been elaborated a few months ago and in any case, it takes in account our long-term view with an increase of the tax rate -- of the interest rate in the long term, something that probably has been a little bit delayed as a consequence of the decision taken by ECB and FID in the recent weeks, but something that, the long term, that will be in any case confirmed.

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Luigi Ferraris, Terna - Rete Elettrica Nazionale Società per Azioni - CEO, GM & Director [10]

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When it comes to your second question, well, we don't foresee any risk of possible downsize of our CapEx program as a consequence of potential delay into the introduction of the renewables. As I said during business plan presentation, the vast majority of our CapEx program is related to the development of the project that's been discussed and approved in the past. So we don't foresee any major risk with that, and there are no direct link to the renewables or at least our margin because you're talking about potential connection with [Rio], but which are the marginal part of our CapEx program.

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Operator [11]

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And your next question comes from the line of Stefano Gamberini from Equita.

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Stefano Gamberini, Equita SIM S.p.A., Research Division - Analyst [12]

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Just one question regarding the recent consultation pattern from the regulator, where they are introduction -- definition, sorry, of the MSME market. They are also introducing some new services for local distributors. So it seems to me that they are moving towards a DSO system more than a TSO one.

What are your thoughts about this new consultation paper? And even if the role of Terna is confirmed they're enforced on the security of the system, but mainly regarding new projects, I referred to the subsea connectors, I don't know if this approach could change or postpone some big investments that are not in the plan, but in the 10-year national plan.

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Luigi Ferraris, Terna - Rete Elettrica Nazionale Società per Azioni - CEO, GM & Director [13]

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Well, with regards to the last consultation document that you're mentioning, Stefano, if I'm not wrong, the document clearly states that the central dispatch is the best option to face the energy transition challenges. The DSO, therefore, is not under discussion.

Of course, the DSO might play a role to solve some local issues and this is something that is not in contradiction with what we say and what we state. The responsibility of the dispatching end of the security of the system continues to be the TSO level, so I don't see any major contradiction. I see a normal and natural evolution of this since as I think we're going to face an increase of connection due to the batteries related to the electric vehicle, due to the increase of distributed generation. So clearly this is going to impact the low voltage and medium voltage grid.

Of course, this is necessary and this is also a part of another documentation to share some information in order to properly program the expected demand and production evolution of this so-called distributed generators. So I don't see any contradiction. I think it goes in the right direction.

Of course, the authority is also thinking about the redesign -- reassessing the ancillary services, but I think, if I may, the most relevant news in this regard is coming from the capacity mechanism, which basically is impacting, of course, both the day ahead and the day after market once full implementation. That's why we think that this is going in the right direction to support the stability of the system and to enable transition to a complete decarbonization as a sort of transitional technology or power capacity.

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Operator [14]

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And there are no further questions at this point. Please continue.

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Luigi Ferraris, Terna - Rete Elettrica Nazionale Società per Azioni - CEO, GM & Director [15]

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So thank you, everybody, and good afternoon.

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Operator [16]

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That does conclude your conference for today. Thank you for participating. You may now disconnect.