Praxair (PX) Q4 2013 Earnings Call January 29, 2014 11:00 AM ET
Kelcey E. Hoyt - Director of Investor Relations
Matthew J. White - Chief Financial Officer and Senior Vice President
Michael J. Sison - KeyBanc Capital Markets Inc., Research Division
Duffy Fischer - Barclays Capital, Research Division
George D'Angelo - Jefferies LLC, Research Division
Jeffrey J. Zekauskas - JP Morgan Chase & Co, Research Division
Vincent Andrews - Morgan Stanley, Research Division
David L. Begleiter - Deutsche Bank AG, Research Division
Robert A. Koort - Goldman Sachs Group Inc., Research Division
Donald Carson - Susquehanna Financial Group, LLLP, Research Division
David J. Manthey - Robert W. Baird & Co. Incorporated, Research Division
Kevin W. McCarthy - BofA Merrill Lynch, Research Division
P. J. Juvekar - Citigroup Inc, Research Division
Mark R. Gulley - BGC Partners, Inc., Research Division
John Roberts - UBS Investment Bank, Research Division
John E. Roberts - The Buckingham Research Group Incorporated
Good day, ladies and gentlemen, and welcome to the Q4 2013 Praxair Earnings Conference Call. My name is Brianna, and I will be your operator for today. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes.
I would now like to turn the conference over to your host for today, Ms. Kelcey Hoyt, Director, Investor Relations. Please proceed.
Kelcey E. Hoyt
Thanks, Brianna. Good morning, and thank you for attending our fourth quarter earnings call and webcast. I am joined this morning by Matt White, Senior Vice President and Chief Financial Officer; and Liz Hirsch, our Vice President and Controller.
Today's presentation materials are available on our website at praxair.com in the Investors section. Please read the forward-looking statement disclosure on Page 2 of the slides and note that it applies to all statements made during this teleconference.
Please also note that our discussion of earnings for the full year and fourth quarter, including year-over-year and sequential comparisons, excludes a fourth quarter of 2013 bond redemption charge and an income tax benefit, as well as previously disclosed adjustments in 2013 and 2012. These items are detailed and reconciled to the reported GAAP numbers in the appendices to this presentation and the press release.
Matt and I will now review Praxair's full year and fourth quarter results as well as our outlook for 2014, including earnings guidance. We'll then be available to answer questions.
Matthew J. White
Thank you, Kelcey, and good morning, everyone. Praxair performed quite well in 2013. Key acquisitions in our core geographies and strong growth from capital projects in Asia and North America helped grow our sales well in excess of underlying economic trends.
Looking around the world, Brazil and Southern Europe both limped into 2013 with recessionary conditions but later stabilized and showed positive growth by the second half.
The North American story was mixed, given strong on-site sales and opportunities around cheap shale oil and gas, partly overshadowed with government uncertainties and limited investment in nonresidential construction, which weighed on packaged gas sales. And Asia continued to grow well across most geographies and end markets.
Excluding foreign currency, we grew full year sales 8% with strong price actions and contribution from project start-ups. EPS grew in line with sales.
We finished strong in the fourth quarter with robust operating leverage and a return to double-digit EPS growth. We successfully integrated multiple acquisitions and generated record operating cash flow of $2.9 billion, which speaks to the discipline and execution of the Praxair team around the world.
Looking forward, we have some significant foreign currency headwinds, specifically in the Brazilian real, the Mexican peso and the Canadian dollar. Excluding currency impact, we anticipate to grow earnings at a double-digit rate in 2014 from solid pricing and productivity, project contribution and moderate economic growth.
Please turn to Slide 3 for a further review of the 2013 full year results.
Overall sales were $11.9 billion, up 8% versus the prior year excluding negative currency translation effects. Sales growth came primarily from increased volumes in North America, South America and Asia and higher overall pricing.
Volume growth came from project start-ups and stronger underlying customer demand in most major geographies. Energy, chemicals, metals and manufacturing markets showed the strongest growth from the prior year.
Operating profit of $2.7 billion grew 8% year-over-year excluding foreign currency, from higher pricing, volume growth, productivity savings and acquisitions. We delivered strong EBITDA and operating margins of 31.9% and 22.3%, respectively.
During 2013, our productivity initiatives exceeded our targeted savings for a fifth year in a row. These efforts are not an annual event, but something that all employees are working toward on a daily basis. The constant focus on generating productivity initiatives, executing them and replicating them globally, typically within the areas of production, procurement and distribution, protects us against declining margins. One additional benefit is that approximately 25% of our savings came from what we call sustainable productivity initiatives, with the largest being energy efficiency improvements in our plants and distribution fleet.
Net income of $1.8 billion increased 5% from the prior year, slightly less than operating profit due to higher interest expense largely attributed to higher debt levels.
During 2013, we issued $2.6 billion of debt with a range of maturities and an average interest rate of 1.7%. Proceeds were used to fund acquisitions and refinance $1.3 billion. We were able to take advantage of low interest rates and our tight issue spreads to treasuries.
At year end, about 80% of our debt was fixed rate and about 20% was floating rate, as we have significantly reduced our exposure to rising interest rates.
Our after-tax return on capital for the year was 12.8%. This was suppressed by significant construction and progress on the balance sheet for plants that did not begin to contribute to earnings until the second half of the year, as well as the large amount of acquisitions in 2013, primarily NuCO2.
Capital projects spend, as well as the acquisition of NuCO2, are typically dilutive to ROC and below the corporate average for the first few years. We expect Praxair's return on capital to trend upward toward the end of 2014 as earnings contribution grows and the capital base depreciates. We maintained a healthy return on equity of 28.6%.
Please turn to Slide 4. We generated record operating cash flow of $2.9 billion for the year, which was equal to about 25% of sales. $3.3 billion was invested in disciplined growth through CapEx projects and acquisitions. $1.1 billion was returned to shareholders in the form of dividends and share repurchases.
Capital spending in 2013 was $2 billion. About 75% of our annual capital spending goes into new growth projects under long-term contracts with customers, about 20% to maintenance spend and the remaining 5% for cost reduction projects, with a typical payback period of about 3 years.
In 2013, we invested $1.3 billion in acquisitions, primarily NuCO2 microbulk carbon dioxide in the United States, Dominion Technology Gases in Europe, serving the offshore oil and gas market, and several U.S. packaged gas distributors.
We continue to look selectively for tuck-in acquisitions in our core business, which are high-quality, low-risk properties where we can bring synergies to the business we are buying and where we can achieve an attractive return on investment.
We paid dividends of $708 million and, this morning, announced an 8% increase to our quarterly dividend in the first quarter of 2014, which represents our 21st consecutive annual increase. This is consistent with our policy of growing dividends each year in line with earnings growth.
During 2013, we purchased 436 million of stock, net of issuances, and reduced our outstanding share count by 1%. $407 million remains available under the share repurchase program that was authorized in 2012. We also announced that our Board of Directors approved a new share repurchase program of $1.5 billion, which, depending upon market conditions, we anticipate completing in 2015.
We expect to continue our strong cash flow generation and our stock buyback program to reduce the share count by about 1% to 2% annually without diminishing our credit rating or access to low-cost funding.
And now Kelcey will take you through the fourth quarter results.
Kelcey E. Hoyt
Thanks, Matt. Please turn to Slide 5. Fourth quarter sales were $3 billion and grew 10% over 2012, excluding negative currency translation effects. Organic sales increased 7% from higher volumes and higher overall pricing, with growth across all geographic segments. Sales were higher primarily to energy, metals, chemicals and manufacturing end markets.
Growth in the energy end market included record North American on-site hydrogen sales from project start-ups. Acquisitions in North America and Europe contributed 3% sales growth in the quarter. Sequentially, sales were comparable to the third quarter as higher pricing offset seasonally lower volumes.
Operating profit was $690 million, up 12%; and, excluding foreign currency, up 14% as compared to the prior year quarter. The increase was driven by volume growth, higher pricing and acquisitions. The EBITDA and operating margins grew to a record 32.8% and 22.9%, respectively.
Net income of $462 million and earnings per share of $1.55 were each up 12% year-over-year.
Fourth quarter operating cash flow was a record $964 million and funded $560 million -- $516 million of capital expenditures, $177 million of dividends and $86 million of share repurchases, net of issuances.
Our project backlog, which we define as projects with CapEx greater than $5 million and associated with a fully executed customer supply contract, remained strong at $2.2 billion and is comprised of 32 projects.
While we continue to anticipate the backlog to hover around $2 billion in CapEx, it may increase or decrease $100 million or so in a quarter depending on the timing of final contract execution as well as actual plant start-ups.
During the fourth quarter, we signed 3 long-term contracts for new projects located in South America and Asia and started 6 plants located across North America, South America and Asia. Our backlog is geographically diverse, with projects in North America and Asia each representing about 1/3 of the capital expenditures in the backlog.
The rest of the backlog resides in Europe, primarily Russia, and in South America. These projects will serve a diverse set of customers in the energy, chemical, manufacturing, electronics and metals end markets.
Please turn to Page 6 for our results in North America.
Sales in North America were $1.6 billion, 11% above the prior year quarter. Underlying sales growth of 6% was primarily driven by higher on-site volumes from new project start-ups for hydrogen supply to refinery customers under long-term contracts in the United States and higher pricing. Acquisitions contributed 5% growth, primarily from NuCO2 as well as U.S. packaged gas distributors.
On-site sales continue to be strong across energy, chemical and metals markets. In the U.S., our customers in these process industries are continuing to take advantage of the low natural gas prices and high labor productivity, which makes them very competitive globally.
Merchant volume trends were steady year-over-year. Sequentially, there was seasonal weakness in carbon dioxide for beverage carbonation as well as liquid nitrogen sales in Mexico for our oil well services business.
Our liquid oxygen and liquid nitrogen capacity utilization rates in the United States currently average about 80%, in line with where we have been most of the year.
We have capacity to grow volumes in most regions with little incremental cost and, therefore, strong operating leverage.
Packaged gas trends in North America improved modestly during the fourth quarter, primarily in Mexico and the United States.
Organic sales for our U.S. packaged gas business grew 4% year-over-year and 3% sequentially. The fourth quarter year-over-year growth continued to be driven by gases and rent, which were up high single digits, while hard goods declined at a low single-digit percentage.
By end market, the year-over-year growth came from oil and gas services, chemicals and refining, as well as spec gases to research and development activity.
Metal fabrication remained weaker, with modest improvement in the Central region. Heavy machinery is still weak, but appears to be stabilizing.
North American operating profit was $393 million, 7% above the prior year quarter due to higher volumes, including project start-ups, higher pricing and acquisitions. The operating margin was a strong 25.1%.
Pricing trends remain positive, and merchant contracts are typically of a 3- to 5-year duration, and the timing of price increases can be impacted by the timing of contract renewals.
During mid-December, we announced a North American merchant and packaged gas price action effective January 1, 2014, across several products and fees. We recently started up an expansion to air separation liquefaction capabilities in Fort Saskatchewan and Prentiss, Alberta. The plant upgrade and new equipment are part of Praxair's ongoing commitment to Western Canada's growing oil and gas market.
During 2014, in North America, we are on track to start up several additional plants, including supply and manufacturing in the United States and Mexico as well as metals in Canada.
Proposal activity for new industrial gas on-site plants in North America remained strong, particularly to the cost-advantaged chemical industry using natural gas as a feedstock. The list of potential chemical projects in the United States is increasing. And therefore, related opportunities for sale of gas is strong across all 3 distribution modes of on-site, merchant and packaged gas.
The pipeline of activity for U.S. packaged gas distributor acquisitions remained healthy.
Now please turn to Page 7 for our results in Europe. Sales in Europe were 11% above the prior year quarter. Excluding the positive effect of currency translation, sales grew 7%.
Acquisitions contributed 5%, primarily Dominion Technology Gases, an industrial gas company that serves the offshore oil and gas industry.
Organic sales were 2% above the prior year quarter due to price attainment and volume growth, driven by new project contribution in Russia as well as modest base business growth.
Southern Europe appears to be stabilizing, and this is the first quarter of positive base business growth year-over-year in our European segment in over 2 years.
Operating profit of $75 million was 25% above the prior year, which demonstrated strong operating leverage from modestly improving volumes, driven by prior cost management actions and price.
Assuming stable volumes across Europe in 2014, we expect to continue to see high-teens operating margins that reflect strong operating leverage on modest growth, as well as additional project contribution in Russia.
The backlog in Europe includes projects primarily in Northern Europe and Russia that will start up in 2014, 2015 and 2016.
We are participating in proposal activity in Northern Europe and Russia in the chemical, manufacturing and steel end markets.
Page 8 shows our results in South America. South American segment sales were $481 million, 1% below the prior year quarter. Underlying sales, excluding negative currency translation, grew 9% year-over-year due to underlying growth in most end markets. Sequentially, lower volumes in on-site, merchant and packaged gases reduced sales by 3%.
During the fourth quarter, customers in Brazil extended holiday shutdown periods. This occurred in most end markets, with the largest impacts in manufacturing and metals customers, which represents about half of Brazil sales.
About 25% of Praxair's sales in South America come from 8 countries outside of Brazil. Underlying sales in these countries grew 17% versus the prior year quarter and 5% sequentially, with strong price attainment and growth in chemicals and food and beverage, health care and metals end markets.
Operating profit in South America was $115 million versus $92 million in the prior year quarter, due primarily to improved volumes, higher pricing and a litigation settlement.
We had project start-up during the fourth quarter in Brazil, Uruguay and Peru.
In Peru, we started up a new 270-ton-per-day air separation plant. Under a long-term contract, Praxair will increase its supply of oxygen, nitrogen and argon to Peru's longest -- largest long-steel maker to meet expanding production capacity for products used in Peru's construction and mining sectors. This is Praxair's third plant serving this customer's facility.
During the fourth quarter, our backlog increased with new long-term supply contracts for customers in Brazil and Peru.
In Brazil, Praxair signed a long-term contract to supply industrial gases to a new steel mill being built near the Port of Pecém in a recently created international free-trade zone in the Northeast region of Brazil. The mill will be operated by CSP, a joint venture between Brazil's Vale and South Korea's Dongkuk Steel and Posco Steel. Praxair will build, own and operate a 2,400-ton-per-day cryogenic plant that will produce gaseous and liquid oxygen, nitrogen and argon. The plant will enable CSP to produce an expected 3 million tons of steel slabs annually, which will largely be exported for further processing by CSP's Korean partners. The plant is expected to start up in 2016.
The new plant will also serve merchant and packaged gas customers in a variety of sectors across the Northern and Northeast regions of Brazil, including food and beverage, metal fabrication, health care and automotive.
During the quarter, we also signed a long-term contract to build Peru's first overspent [ph] hydrogen plant for a petrochemical refiner which serves the local market. The new 12 million standard cubic foot per day steam methane reformer will be constructed near Lima and is expected to start up in 2016.
Currency translation of the Brazilian real is expected to be a full year headwind of more than 10%. 2014 consensus industrial production for Brazil is forecasted to be about 2%. Our 2014 outlook for Brazil volume growth is positive, although it is likely to be uneven, given the macroeconomic challenges such as infrastructure bottlenecks and rising inflation. However, we expect to continue to augment growth with applications technologies that bring productivity and environmental benefits to our customers, as well as growth through higher price.
Please turn to Slide 9 for our results in Asia. Sales of $394 million grew 5% versus the prior year quarter. Volume growth of 8% came primarily from higher on-site and merchant sales in China, India and Korea for metals, energy and electronics customers. More than half the growth was driven by new projects and the remainder from base business growth.
Asia's operating profit of $80 million increased 16% from the prior year quarter. Operating profit grew from higher volumes, productivity gains and also included a gain related to land sale in Korea of about $10 million.
Lower argon pricing in China and lower electronic processed gas pricing in Asia reduced sales by 1% from the prior year quarter. The Asian business has taken price increase actions in electronic gases and helium, as well as merchant products in Korea and India. However, liquid argon price in China continues to be pressured by supply growing faster than demand as large projects have come onstream. However, over time, this trend should reverse as demand growth with higher intensity of gas utilization and supply assets are rationalized.
During the quarter in China, we signed a long-term agreement expanding supply to Shaoguan Steel, a subsidiary of Baosteel Group. Praxair China has acquired an existing air separation plant previously owned and operated by Shaoguan Steel in South China, allowing Shaoguan to focus on its core steel production business. Praxair has been supplying gas to Shaoguan Steel for almost 15 years. Praxair will upgrade the 1,100-ton-per-day plant to meet its operational and reliability standards.
Praxair previously built and currently operates 3 air separation plants at the steel mill and will integrate the plant into our production system. The plant will increase Praxair's total production capacity to 3,200 tons of oxygen per day and will contribute to growth in 2014.
In addition, during the fourth quarter, we signed a long-term contract with Taewoong Steel to supply high-purity oxygen to the company's steel mill facility in Korea. Praxair will construct a new 180-ton-per-day air separation plant and pipeline in an industrial zone that will serve Taewoong as well as other new and existing pipeline and merchant liquid customers. The plant is expected to start up in 2016.
Proposal activity in Asia continues to be driven by longer-term secular needs and includes energy, wastewater treatment, metals, electronics and petrochemical end markets.
2014 project start-ups for Asia include plants to serve manufacturing in China and Korea, steel in India, electronics in Korea and chemicals in China. Our results for Surface Technologies are shown on Page 10.
Surface Technologies sales for the quarter were $164 million, up 1% compared to the prior year. The underlying sales growth came primarily from higher price, as energy sector coatings, including rotors, were steady and military aviation coatings decreased.
Operating profit was $27 million for the quarter.
And now I will turn the call back to Matt, who will discuss our outlook and earnings guidance for 2014.
Matthew J. White
Please turn to Page 11. For 2014, we expect the global economy to grow at a modest pace, in line with recent trends. In Southern Europe, volumes are stabilizing. And with our industry-leading position in North America, we remain well positioned to continue to take advantage of the attractive fundamentals for the energy, manufacturing and material industries.
In Brazil, growth should be positive, although uneven, given ongoing macroeconomic challenges. We are issuing full year EPS guidance of $6.25 to $6.55 for 2014, which represents 5% to 10% year-over-year growth, inclusive of expected negative currency translation effects.
Excluding currency, the guidance for 2014 is for sales growth of 6% to 10% and earnings per share growth of 9% to 14%, in line with our medium-term growth outlook.
Our guidance for the full year of 2014 is for sales to be in the range of $12.3 billion to $12.8 billion. Our range of sales growth assumes organic growth of 2% to 6%, including price. Excluding price, the range of volume growth is expected to be flat to 4%, depending on the strength of industrial activity in the regions in which we operate.
New projects will contribute about 3% top line growth for the year. At current exchange rates, our projected year-over-year sales face an estimated 3% headwind, primarily due to the Brazilian real, Mexican peso and Canadian dollar. We expect acquisitions to contribute about 1% top line growth, which includes existing acquisitions as well as those expected to close this year.
We anticipate a U.S. pension tailwind of approximately $0.05 per share, but this benefit will be mostly offset by higher interest expense.
Our earnings guidance for the first quarter is for EPS of $1.48 to $1.53, up 7% to 11%; and, excluding currency, up 11% to 15%.
Typically, our first quarter is the weakest of the calendar year due to seasonal slowdowns with the holidays in Brazil and China and refinery customer turnarounds. In addition, the recent adverse weather in North America has impacted volumes in the on-site, merchant and packaged businesses.
We expect capital spending to be in the range of $1.8 billion to $2 billion. We are being selective and disciplined about the projects we pursue, only accepting those where we can bring a competitive advantage or get synergies with our existing infrastructure. This allows us to earn a high return on capital, which in turn produces higher cash flow that we will continue to return to shareholders in the form of dividends and share repurchases.
With that, I'd like to now turn the call over to Q&A.
Earnings Call Part 2: