ADAMA Ltd. (000553) Earnings Call Transcript & Summary

[Foreign Language] Ignacio, you have the floor now.

Very good. And thank you, and welcome to these comments that we're going to share with you, the results of ADAMA in the second quarter and in the first half of 2022. Overall, the atmosphere in the market is very positive, but we can see that crop prices are remaining high, and that is the main story of the first half. [Foreign Language] These high crop prices are supporting a very positive atmosphere upon the -- this positive fact that many of the inputs in the farm are very -- operating in very elevated prices, especially fertilizers. Farmers are still making money, and that, with the recent growth, the demand, this is still very strong for Crop Protection products. [Foreign Language] Nevertheless, the challenges that we've been sharing with you in recent quarters are still a reality in one-offs. Our supply for protection, including in active ingredients and raw materials, some logistic limitations and many other aspects that are building the challenge. [Foreign Language] Nevertheless, few things are softening versus the effect that we saw at the end of first quarter like COVID-19 in China that has improved slightly, with production back into normal levels, and an improvement in the import and export because the port in Shanghai is gradually recovering. [Foreign Language] But at the same time, the logistic prices, even though has softened a little bit, are still very hard. Prices of active ingredients also, they have decreased slightly but still very hard. And intermediates, they have increased substantially because of uncertain availability. You combine that with the uncertainties that are coming because of the conflict in Ukraine and Russia, that is having an effect on energy prices. You can see that everything around the costs is still very challenged. [Foreign Language] In this environment, if you move to Slide #5, you can see that the company of ADAMA has performed very solidly, achieving record sales in the quarter that are showing an impressive 21% growth versus the previous year. Growth that is translated into all the other variables of our business. The reason for that is 'cause a big chunk of this growth is driven by price, 22% higher prices achieved in quarter 2 of '22 versus the year before. [Foreign Language] That is the reason why you can see that the growth is translated into the gross profit as well because it's offsetting the higher logistic procurement and production costs. And if you combine it with the traditional report that the companies putting on controlling our expenses, then you can see that it's also translated into very solid EBITDA growth, and later on, into the growth in our net income. [Foreign Language] The higher prices and the improvement on the OpEx sales ratio is certainly offsetting all the other challenges, including higher financial expenses in our higher hedging costs and the balance of our financing. That is the main reason for having such a solid growth in our net income and reported net income for the quarter. [Foreign Language] These results are also confirmed in the next chart in Slide 6 that talks about the first half. So our amount has grown 24%, and this growth is coming from a very remarkable increase on prices of 20% combined with a solid 8% volume growth. That is the reason why all the other variables, cost profit and EBITDA and net income, are performing very solidly because we're able, combined with our rigor on expenses, to compensate for the many challenges that are around us in the production arena. [Foreign Language] I want to point out that the EBITDA growth is despite the fact that we have generated a provision for collection in Ukraine that we are offsetting the higher transportation and logistics cost and even the impact that, in our expenses, do have the impact of regions and acquisitions. Despite all that, it is very remarkable, the growth that we show in our EBITDA and in our reported net income. [Foreign Language] In Slide #7, you can see that the growth is coming from all the globe. Certainly in constant exchange rate, all our geographies are performing very notably. In U.S. dollars, we see the impact of exchange rates especially in the area of India, Middle East and Africa. But it is very, very solid, the growth that is coming from all the different places. And it is remarkable how the modest performance in the Asia Pacific region, where China showed an impressive 60% growth versus the year before. [Foreign Language] And that is a [ swap ] of the picture, if we move to Slide 8, when we look into the first half, and let me just elaborate a little bit about the different geographies. We are especially proud of the growth that Europe is showing despite all the difficulties. Just bear in mind that the euro has depreciated almost 20% in the first half of 2022. Combined with the fact that we have a massive disruption in -- because of the conflict, Ukraine and Russia, and very adverse climactic conditions in the southern countries. And despite all that, Europe deliver almost a 7.5% growth versus the year before. [Foreign Language] In North America, consumer products, they were affected by the high inflation and a certain slowdown of the consumer demand. But this was greatly compensated by a very good performance of the rest of professional, our ad products in the U.S. and in Canada. [Foreign Language] The performance in Latin America is driven by a very good outcome in Brazil, where ADAMA has continued to position our -- a image of a differentiated formulation provider. [Foreign Language] And then the success story in Asia as we think is China, where everything performed exceptionally well. Our strong sales of raw materials, intermediate, fine chemicals was combined also with a very solid growth in our branded business, which was also boosted by the acquisition of Huifeng, and we're forcing our position in the local domestic business in China. [Foreign Language] I'll ask now to share with you a bit more about the details behind our financial review and ask you all to turn it into Page 10. [Foreign Language]

Thanks, Ignacio. As presented by Ignacio, in Q2 2022, we reached record high sales of $1.5 billion, 21% higher than last. It is coming from 22% higher prices in most of the regions and 3% higher volume. [Foreign Language] We were negatively impacted by the [indiscernible], as all currencies depreciated versus the U.S. dollar, except for the [indiscernible] and the [ Zambian ] currency. The U.S. dollar is strong as a result of relatively high dollar interest rate and the expectations for additional interest rate, and the uncertainty in each year. [Foreign Language] In Slide #12, we can see a chart, sales bridge, and the picture is more or less the same picture as the sale for Q2 2020. Record high sales of $2.9 billion, 24% higher than last year, 20% in prices and 8% in quantity. And in -- also in H1, negatively impacted by strong dollar. [Foreign Language] The increase in quantity is just the high demand for Crop Protection products in the market and despite mixed weather conditions, topline and logistics challenges and the situation in East Europe. [Foreign Language] Looking into gross profit, we should start client levels to these. The trend we started in Q3 2021 of price increase continues to Q2, while in this quarter, as we saw already in Q1, our price increase more than offset the negative impact of the cost and the currency, resulting by [ sublet ] of $67 million. [Foreign Language] In Slide #14, we can see the gross profit increase for the first half of 2022. While also for H1, our price increase more than offset the negative impact of the cost and the currency, resulting by sublet of $180 million. [Foreign Language] In Slide #15, we can see Q2 EBITDA range. As you can see, with higher expenses, which restrict the long growth of the business, and the higher transportation and logistic costs, our EBITDA ratio in Q2 2022 is 16.2% compared to 15.2% last year. [Foreign Language] In Slide 16, we can see that also in H1, we succeeded to improve our EBITDA margin from 14.7% last year to 15.2% in half, and this is despite the high operating expenses, which also include a provision made in Q1 for the plan or the extent of this. [Foreign Language] In Slide 17, we can see our cash flow situation. In general, the increase in working capital was $165 million. It will support our significant growth. This is also reflected by the better ratio of working capital to the last 12 months set, which is a net 49%, lower than 56% last year. In Q4, at the margin side to procure more growth in order to mitigate the risk of shortages due to supply logistics challenges, which reflects in the higher inventory and the higher capital. [Foreign Language] Slightly higher receivables is reflecting good collection that has been done during this half. [Foreign Language] Free cash flow, reflecting also investing activities, which is largely related to investments in solid manufacturing solidities in Israel and Brazil, as well an investment in the stock and tangible asset hedging at the last global registration. [Foreign Language] In comparison with investment in H1 2021, last year, investing activities included also the relocation and upgrade of manufacturing and others impact, which was completed toward the end of the second quarter of 2021. [Foreign Language]

Thank you, [indiscernible]. And I would love to invite now Yoav to share with you some of our strategic insights.

Thank you. I'm Yoav, VP of IVR, which includes our innovation, R&D, product development and registration in ADAMA, and I'm going to talk about our formulation master strategy. [Foreign Language] So why is ADAMA, as an off-patent active ingredient company, investing in formulations? [Foreign Language] To give the background to our strategy, our industry is changing, having to deal with what I would call a perfect storm of changes over the last few years. First, more regulatory and consumer pressures that are raising the bar on performance of the new products coming to market. Second, climate change and sustainability challenges that also force us to think more and invest more in development of our new products. [Foreign Language] Having said that, we also have less active ingredients to play with as a result of fewer that are coming to market from discovery, and more that are being banned and exiting the market. And finally, more resistances that force us to develop more products faster in order to meet the challenges of the food supply requirement. [Foreign Language] And before we dive into the strategy of formulation last today, I want to explain very quickly where the formulation fits in the products. So on the left, you can see that we start with raw materials from which we synthesize active ingredients. Usually they come in powdery shape. It's not something that you can apply in the field and get any results, so you need to formulate it into various liquid, and sometimes, solid forms that help the active ingredient remain intact on the shelf for a year or 2, remain intact in field temperatures and pHs, and ultimately ensure that as much as possible, reach the target side in the plant and for the defense. And then it's packaged and sold to the farmer or distributor. [Foreign Language] So I want to give a specific example of the product that we are actually selling at ADAMA. It's a fungicide that treats the big disease that affects wheat and barley, cereal in general, across the world, it's called septoria. And in blue here, you can see that the performance of the existing commercial product that ADAMA sells, which is a good product is about 60%. That means it kills 60% of the fungi disease when it's applied on the cereal. It's not best. But here, you can see that we created new versions of this product just by changing the formulation. It means that each of these bars represents a different version of the same active ingredient, given at the exact same rate, but we get as high as 90% efficacy against this disease just by including new and advanced formulation technologies. It shows us the power of the formulation in the face of the challenges that I mentioned, and less active ingredients to work with. If you invest in formulation, you can still improve by 50%, as in this case, the performance of your product. [Foreign Language] And this also opens up a lot of opportunities not only to provide a better product, but also to differentiate our offering by capturing intellectual property, and we've been doing that more and more. You can see here on the graph, the number of patents ADAMA has submitted. In most case, they're accepted. Over the last 5 years, you can see very significant growth in the number of inventions that we capture as patents for ADAMA, and I can say that most of them are associated with formulations. Some are also related to other aspects of innovation that ADAMA continues to work on. In this area of off-patent active ingredients, the formulation really creates a lot of the incremental value and differentiation. [Foreign Language] And ADAMA is positioned really well in this area. We've been working with off-patent AIs and having the largest portfolio of those AIs for decades now, and that forced us to be very good at formulating different chemistries, different cultures, and focusing on the formulation and not tamper it. So now this is actually playing to our advantage, and another driver for our increased focus on formulation mastery is a way to get better returns on our product performance, and ultimately, our returns. So in other words, we're just turning off-patent active ingredients to off-patent product based on the formulation technology. [Foreign Language] I want to again, go a little bit deeper and explain to you what are the platforms of innovation in formulation, what we call the formulation mastering platforms. [Foreign Language] So this is actually very exciting to me because we're starting to see a lot of fruits of our labors and products that are always coming to market. And here, I'm going to discuss just a few of our main formulation technology platforms to give you a little bit more flavor on what we do with them. [Foreign Language] So on the left, ASORBITAL Technology. This is a technology platform that we created and patented and already developed into several products, a few of which are already on the market, first one launched in 2020. And this is a technology platform that helps the active ingredient get inside the plant. That means that for the same amount of active ingredient, more of it can reach the target side where it actually works. [Foreign Language] And it gives us the opportunity to reduce the rate of active ingredient, thus providing a more environmental friendly, sustainable solution. Also cost effective, because we use less active ingredient to reach the same result. The second one I want to mention is JERICHO, which is an exciting technology platform that helps Rainfastness, which means -- I'm sorry, this one is -- the next one is Rainfastness, I'll get to it also. But JERICHO helps us stabilize very high-load concentrated formulations, which means that we can package a lot more of the active ingredients in each liter or each kilogram of product and we need to apply this product. It's very good for sustainability because it means that we come to the field with much less packaging, performance plastics. As we like to say, we don't even have to recycle this plastic. We don't even manufacture it in the first place. [Foreign Language] And it also has a lot of cost and economics values to the channel and to the farmer. And here too, we've already utilized this technology in a number of products. First ones are actually launched this year. [Foreign Language] The RAINFAST Technology has to do with Rainfastness, which means how much of the formulation sticks to the leaf. If more sticks to the leaf for a longer time, it means you can give less and still achieve the same or better results. Again, playing into using less but getting more. Good for sustainability, good for economics and good for the outcomes for the farmer. [Foreign Language] And on the right, I listed a variety of additional formulation technology platforms that are still in the pipeline and about to hit our shores in the coming few years, with additional products that we will launch. [Foreign Language] A nice example is our Soratel formulation. It's a prothioconazole 250 grams per liter EC formulation. We launched it for the first time in 2020, and what's interesting here is that it's based on prothioconazole, which is a correlated AI related to our very exciting and still ongoing correlate strategy. But here, we come to market with a similar offering because there's already a product out there from the innovator of prothioconazole, which is a 250 EC. Except that for the same 250 grams per liter, you can see the blue bars here, we get a lot more effective space. That means that in very, very large markets and diseases affecting cereal, all seed rate and others. For example, [indiscernible], septoria and so on, we get 13%, 18%, close to 20% more effectiveness or efficacy for every gram of active ingredient as compared the same active ingredient used by the traditional approach. Obviously, this again might have cost and sustainability advantages in addition to the performance advantages. [Foreign Language] Another example of how formulation technology makes an impact where the rubber meets the road is using JERICHO technology for high-load concentration. We're about to obtain first registrations for another quality product I prefer not to mention. But I will say that we're able to increase the rate of this active ingredient from about 450 grams for each liter to almost double, 835 actually. So as this visual suggest, we're able to go to the field with about half of the amount of formulation, half the packaging and the plastics and all of the inventory space and logistics and still deliver the same amount per hectare of active ingredient, thus achieving the same result with a lot less. Less co-formulants, less cost, less packaging, more value, more sustainability. So another nice example of how formulation technologies create dramatic differentiation with no change to the active ingredient itself. [Foreign Language] With that, I would pass it on to the next topic, and thank you very much for your attention. [Foreign Language]

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Hello, distinguished leaders of ADAMA. I am Xiao Yaping with CICC. I've got 3 questions. The first one is about the production capacity of pesticides in European countries. We know that the Russia and Ukraine conflict has been pinching up the price of natural gas, and we also know that it has posed risk over the production of AIs of various pesticides. Could you elaborate the status regarding to the capacity changes in the coming months? My second question is regarding to the strategic investments of your company in Brazil, Israel for the [ co-led ] active ingredients. So I'm wondering if you can introduce, what will be the future layout of AI production for ADAMA in the 3 countries, including Brazil, Israel and China? The third question is about the weather. We noticed that in the first half of this year, especially this summer, both EU and China have witnessed extreme high temperature in various locations, and there is concern that there will be a cold winter with extremely low temperature coming. So how do you forecast the weather conditions in the second half of this year? And how do you expect it will influence the sales of pesticide?

Okay. Well, thank you very much for your questions, three very critical topics. The first one about production capacity, we do know that the European manufacturers, they are going to suffer because of natural gas restrictions. That is a reality happening today. We do know of certain gold materials and finished products that were supposed to supply for the Latin American campaigns that are having difficulties in some of these European producers. This certainly represents an opportunity for ADAMA. We are right now in a process of expanding our capacities and capitalize [indiscernible], but we want to be also very cautious because today, we are not having any issue, but we are monitoring very closely what is the situation of energy in China as well. As you rightly say, it has been a very dry hot summer, and we are hearing that maybe some restrictions on energy, not as extreme as last year [indiscernible] control measures, but some of those might happen. So energy not only a European issue, might be on other places. I'll stop here for translation, and then I'll answer the other 2 questions. [Foreign Language] That leads me to your second question, which is about our strategic investments in our [indiscernible]. Well, we do have an advantage because we do not depend on a factory in Europe. We have 2 main bulks of our activity, one in Israel, the other one is China, as you do know. And we are heavily investing in these 2 places in order to ensure that we have a solid backward-integrated capability coming out of those places. In addition, rightly as you pointed out, for certain active ingredients, for certain raw materials, we're complementing with a strategic investment in Brazil and in India. India mostly or some intermediate effects in raw materials. Brazil, a different thing because there are tax benefits that we are capitalizing by having some of our fungicides produce as well in Brazil. But let's not be confused, for raws, Israel and China are the bulk of our activities is strategically complemented by the other places. And certainly, it gives us advantage versus some of our European players. You're asking about -- I stop here for translation, then I'll address it. [Foreign Language] And about the weather, it is totally correct that we see more extreme events in many places. But on the global view, many of these events are compensating each other. I don't think that weather has that big impact. I think that it's more that this uncertainty is translated into strong demand that is happening in many markets. Demand that is generated at the distribution level because the results of good economic conditions [ at farm level ]. We are envisioning a continuity over the second half to many of the pattern that go to first half, and we are moderately optimistic about next year. We will see a few other events coming into play, and it is too early to say that cold winter has an effect, especially on allocation of natural gas for some of the European producers. We'll only see that, but we're getting closer to the company. [Foreign Language]

[Foreign Language] I am [indiscernible]. I've got 2 questions. The first one is still related to the energy risk in European countries. As you said just now, we can foresee that there may be some return -- opportunity returns because of lacking of certain products supply. Their price may also go up. So does ADAMA have inventory buildup to prepare to seize these opportunities? The second question is about how do you see the trend of formulation product? We see the price of formulations have been going up in the first 6 months. And how about the inventory level right now? Do you see the same trends in the second half? Or do you see it will decline? The third question is about prothioconazole. I would like to ask you to elaborate more about this product. How does ADAMA have promoted? And what is the feedback from the market? Also, I would like to know the production resumption in Huifeng plant. My last question is about hedging. The hedging costs have significantly influence your profitability in H1. Have you got figured out any patterns or models or solutions to avoid such suffering hedging cost?

Okay. Thank you very much for your questions. You're talking about, again, the energy risk. We [indiscernible] that some of these difficulties having a real impact. Very interesting that you're talking about prothioconazole because the reality is that we do know that there is going to be some supply issues of prothioconazole in the market. Some of it generated by difficulty on the European producer. Some of it is also because of some difficulties of the main Chinese suppliers that have some issues. In this context before that we do have vendors. First, because we've been building inventories in order to secure our second half business is a good form. We are very confident that we will be depleting these inventories into the market in a healthy way. And specifically about prothioconazole, we do know now that we have a great opportunity to supply a market that is extremely demanding, and we are putting a lot of effort into it. We stop here for translation, and I'll give a bit more details around prothioconazole. [Foreign Language] Then specifically about prothioconazole. We are right now invested in a plant in India that will be producing raw materials for prothioconazole production. Expansion of capacity of prothioconazole in Israel that will add additional volumes to the product we are already producing, and expansion of our activities in Brazil in order to produce prothioconazole. All these investments will start to produce material during the second half of this year and that will allow us to capitalize not only on the active ingredient. But as you heard from Yoav on the presentation of formulations, we are enforcing our position with new formulations that are differentiated and then with a superior performance like [indiscernible], which is right now being launched in the market and some others that will come in the next 18 months in the market, providing superior performance, containing prothioconazole on it. So yes, we do have great opportunities, not only in terms of volumes, but also in terms of volume and prices, as you rightly said, because prices are -- we are confident that we will be able to maintain higher prices than the year before. And that is in our formulations will be enough in order to compensate some of the costs that we are facing challenge. I'll stop here before addressing the other 2. [Foreign Language] We are very pleased that our manufacturing layout now is really forced by the ramp-up in the production of Huifeng. Huifeng was stopped for 3 years and getting the stuff into production has been a bit more challenging than we were expecting. But at the time that we're speaking, the lines have finally achieve all the permits from authority. We're resuming the production in all the lines of Huifeng. That combined with the establishment of relationships where some third-party customers and also reinforcing our activities through the ADAMA network. And finally, a good performance of our Huifeng domestic business shows us that this was a wise investment for ADAMA. [Foreign Language]

This is Shahar. Regarding the hedge, our main functional currency is U.S. dollars. We always reduce with, we don't take positions. That means whenever the dollar is strengthening, then we have hedge incoming. And when it devaluated, we get the other way around. So you should treat the hedge expenses as part of the total performance of the business because the overlaying is just to reduce risk, and it works for the other side of the currency exchange. So we -- again, we do not take positions and this is just a risk reduction aim. [Foreign Language]