Air Products and Chemicals, Inc. (APD) Earnings Call Transcript & Summary

Good morning. My name is Dave Begleiter of Deutsche Bank's U.S. Chemicals team. Welcome to day 2 of our Global Materials Conference. With us today is the team from Air Products, CEO, Seifi Ghasemi; CFO, Melissa Schaffer; and Simon Moore from the Investor Relations team. So with that, we'll jump right into the Q&A portion of the session. Simon, Melissa, welcome.

Thank you.

First off, how's business? How's demand by region and by end market?

Well, first of all, David. And as usual, it's a pleasure to be with you. And also good morning to all of the people who are listening. If I may start from the Far East, the demand in general in Asia has been respectable. We were very concerned about the demand in China because of the shutdown and so on. But it seems that although it went down, it didn't go down as much as we were afraid of, and they are on the way back. And so nothing dramatic. Obviously, I don't think China is going to grow 7% or 8%, but it seems that they are going to be on a way of 4% or 5% at least. Then the demand in India is good. Our Middle East operations, we don't have a lot of merchant business, but our on-site business in Jazan is working out very fine. We have seen a little bit of a slowdown in Europe in terms of demand for obvious reasons that is very well known to everybody. And obviously, the challenge there is the energy prices and for us starting to increase the pricing in order to keep up with the energy price. And then in Latin America, always nothing really dramatic. I would say there is a little bit of a slowdown because compared to last year, you had COVID in Latin America and oxygen demand was significant. But now that has subsided a little bit, so year-to-year, it's down. And then in the U.S. and Canada, everybody knows the situation very well in terms of what is going on. So...

Any signs of demand weakness amongst your consumer-oriented end markets?

We haven't seen that yet. No.

And in Europe, have you -- what's your long-term view of that region as a region to invest in given perhaps structurally higher energy prices?

Well, the thing is that as long as we can and we have been able to pass through the cost of the energy, then it doesn't really become an issue for our business. The challenge is, are we able to recover the prices, and we are. So as a result of that, I don't think it will change the situation that much because it obviously, the end product that our customer makes becomes more expensive and it contributes to inflation and all of that. But in terms of from our point of view, the challenge would have been if you couldn't pass the price increases, but we can.

So I know on the Gulf Coast, there's been a lot of demand for hydrogen from chemicals refining. How is your hydrogen business doing on the U.S. Gulf Coast?

Fine. Obviously, with the margins on the refineries -- certainly are running these refineries.

Very good. So -- and the last thing about China, as lockdowns ease, have you seen any pickup in demand yet or is that still premature?

We are seeing it becoming in-demand, yes.

Very good. Pricing now, it's a very sensitive subject, but we're in the midst of the best ever pricing cycle in the industry, aided by inflation. How long is does price cycle continue, do you think? Is it quarters, years or longer?

Well, David, we obviously don't start -- as a matter of policy, we don't comment on pricing in the future. But in general, what I can say is that we have demonstrated that the products that we have are so essential to what our customers make and that they have to use the product. And our products is not a significant part of the final cost of the customer. So as a result, even if prices double, the day product -- I mean, it doesn't double the price of steel or it doesn't double the price of the chips. So as a result, we do have the ability to increase the prices. And as long as if inflation is there, energy prices are up, we can compensate for that. And therefore, that is truly one of the strengths of the industrial gas business anyway.

And if we were to see energy prices move lower, power price move lower, how much of these price increases could you retain?

You mean what is the limit?

On the merchant side, obviously, you pushed -- that's where you have most exposure. How much of these is -- are all these price increases retainable, sustainable? Will we see some retrenchment in energy and power costs?

Well, the thing is that we have increased the prices. Now you're saying that, let's say, inflation goes away, when inflation goes away and then we gradually would have to bring down the prices because we're telling people our trucks need fuel, fuel cost is up, therefore, we have to charge them. But usually, what happens is that when inflation goes down, we can hang on to the pricing for a while before we give it back to the customer. So it becomes a tailwind for us.

Got it. Labor issues. I remember in the last call, you mentioned 150 open positions for, I believe, truck drivers. Is it getting any better for you guys on the labor side of the equation?

No. On labor issues, I want to be very specific because we do not have any issues in hiring people in general, which is engineers and all of the -- the only problem that we have is specific to the United States, and that is truck drivers. That situation has not eased. We still have difficulty finding truck drivers. In the rest of the world, that's not an issue. It's just a particular U.S. issue for us in a particular sector, which is the truck drivers.

And how are you working around that issue?

Well, obviously, it costs us more because our current drivers -- and I shouldn't call them drivers because they are really delivery technicians, because they do more than just drive the truck. They go in there and make the connections and all of that, so they're very valuable people. But the way we deal with that is that we have to spend more time on overtime, which obviously cost us to double or triple time, so our cost goes up.

Understood. Maybe on to the fun stuff, the big mega projects, can we walk through each of these, get a quick update? First, NEOM and then Alberta, Louisiana, sustainable fuels in L.A., and we'll go from there. So first, how is NEOM truly progressing?

I'll go in the order that you mentioned there. With NEOM, we are on schedule, on time. We have signed all of the major contracts. We have chosen most of the subcontractors. So the project is moving forward, and we expect that project to have products for the market, final stage, at the beginning of -- late '26 beginning of '27, which is the schedule that we adopt. Our second largest project is the project in Louisiana. That project, we have started the engineering. They're clearing the site, and we expect that to come onstream in '26. The project in Canada is on schedule. We have been -- made good progress there. We have solved the issues of how to sequester the CO2. We are in the final stage of negotiating with the Canadian government about incentives and all that. So I'm very happy to report that, that project is on schedule. And the World Energy project, as you know, we got our permit to start demolition and all of that a few months ago when we announced the project, and we expect that project to come on stream in '25.

And on that project, which is an SAF based project, what's your traction of SAF to Air Products?

Well, it's significant because in order to make SAF, sustainable airline fuel, from animal fat and all of that, you need a huge amount of hydrogen to do that. So it is an extension of our business. So this is not as if we are getting into a new business. So we welcome that, and that is why we got involved in that project. And what I'm happy to say is that a lot of other people are thinking about making sustainable airline fuel or renewable diesel and converting the refineries that they have shut down to this, which creates a lot of opportunity for us in terms of hydrogen. And the hydrogen intensity for those things is a lot higher than in a refinery. So we are very pleased with that. And the demand for sustainable airline fuel is significant, and it's a good sector to be in, and we are delighted to be there.

Very good. You recently announced a project in Oman, looks to be more like a cookie-cutter maybe versus NEOM. Can you just touch on that project? And what's your role in the Oman contract?

I'm glad you're asking about that because people say, well, wait a minute, you want additional capacity for green, the cheapest thing to do would be build another one next to NEOM. Why aren't you doing that? Well, the reason for that is that the customers for the green are basically, number one, they want 2 plants, not one plant; but the second thing is that they do want it to have in different countries because of all the standard political risk. So as a result, we didn't want to build another -- someday we can build another one next to NEOM. But the second project, we wanted to be in another country. And we have been working -- I mean I've been to Oman 5 years ago to talk about this project. So we have been working on that for a long time, and it got to the stage that they got the agreement from the government, and we made the announcement. So I'm very happy about that project. It's a going to be a very good project and it's basically a carbon copy of NEOM.

Are the production costs similar, higher or lower in Oman versus Saudi Arabia?

It will be very similar, very similar.

Okay, a fear I've heard is production -- construction costs, these projects, potential inflation. How are you mitigating or planning for potential cost inflation in these projects?

Well, it depends on the projects, David. You're asking a very good question. We have about $20 billion of projects under construction. Some people look at that and say, well, my God, even if inflation affects you 10%, that's $2 billion. But that is not the way it's going to work because a project like NEOM, a project like Louisiana, a project like Canada, if because of inflation, it will cost us more, then we just sell the product at a higher price. Because those are not take-or-pay contracts that we have committed to a certain -- and then some of the projects are very much at their end. So when you take the projects that we have made a commitment on the price, and we might be subject to inflation, it's probably about $3 billion. So on that one, if there is 10% inflation, it affects us $300 million in $20 billion.

And that leads to my next question. What types of premiums are you assuming for green hydrogen, net zero hydrogen, even blue hydrogen?

Well, the thing is that's a rule of thumb, we think that whatever gray hydrogen is, green -- blue hydrogen should be towards the price of that and green hydrogen should be to watch the price of blue hydrogen. Order of magnitude, but obviously, that depends on which markets we sell it to...

The returns on these projects, you discussed in the past. Do you want to remind us the returns you're targeting and where they could actually come in as they're being realized?

Well, we have always said that with Air Products, if we announce we are doing a $2 billion project, you should expect $200 million of EBIT. That's kind of...

10%?

10%

Plus, though?

Well, for most of these projects, if things work out the way we think it's going to work out and we would be the only one who is having these projects on stream, the potential is that it will be higher than that.

I know a plan for NEOM and Louisiana is to convert the hydrogen to ammonia, ship it to Asia, convert it back into hydrogen for mobility. Is there any loss of material when you get disassociate from ammonia back to hydrogen? Is it one-to-one? Or do you lose some volume?

There is some loss, but it is not what some people have -- some people have made the statements that they don't want to get in the business because you lose 30% of the product. Well, I don't know where they got that number. Maybe that's based on the technology which was available in 1755. But we have developed -- Air Products has developed our own technology for cracking ammonia. And we think that is going to be a competitive advantage. And on that one, the loss is significantly less than that, number one. The second thing is that with NEOM, one way is to do all of the things that you said, we take it to Hamburg and load it and crack it and make it hydrogen and sell the hydrogen. But another thing is that if some other applications develop like the marine application, and then you don't have to convert anything. I mean a ship can come dock at NEOM, put ammonia in there and they use it for preparing the ship. So there's a lot of different applications.

Very good. I know you're building infrastructure in Asia for mobility hydrogen. How is that -- I think it was about $2 billion of investment perhaps in Asia. How is that portion of this strategy progressing?

Our goal right now, from what we have seen in terms of the demand, my expectation is that most of the product from NEOM is going to go to Europe. So the place that we are really investing in the infrastructure is in Europe, especially in Northern Europe, like in Germany, in Holland, in U.K. and in the United States, especially in California. That is where we see most of the first NEOM demand will be. Then obviously, when we do Oman, then you have -- we will look at other parts of the world. But right now, the focus is very much in Europe and the United States.

So are we still spending, targeting a $2 billion investment for infrastructure in Asia?

Not in Asia. So we might invest some money in Asia for building a hub but that would be $200 million, $300 million. This will not be the -- the $2 billion that we have said, we will invest for the infrastructure, will be at the -- initially, it will be mainly in Europe and the U.S.

Very good. And the Louisiana project's output of ammonia, that's geared for the U.S. or -- where is that project geared for?

In blue ammonia?

Yes.

That -- the blue ammonia -- we are making 2 things in Louisiana. First, we are making hydrogen. A significant part of that hydrogen will go to our hydrogen pipeline, and we will provide blue hydrogen to the some of the customers that they have existing because they would like. So that would be -- the rest of the hydrogen, because of the scale, we are converting to ammonia and most of that ammonia are expected to go to Japan for decarbonizing their power plants.

Very good. How is the project pipeline looking right now post SAF and L.A., Oman, green hydrogen? How's the pipeline looking going forward?

We are in a fortunate position because the technologies that we have acquired, the gasification technology, the cracking technology, the hydrogen refueling station technology and all of that, we are very much in demand. A lot of people are approaching us with projects. And now that we have the experience of developing some of these projects, our project pipeline, literally, if you add it up, it becomes almost $100 million. So we are in a fortunate position to be able to pick and choose projects, which I obviously like. But because we have put a self-constrain on how much projects we take, and that is that we want to maintain our A rating so that we don't want to go in terms of net debt over EBITDA or more than about 3x. But we are still -- despite all of the projects that we have announced, as you see from the information that we have made public, we still have more room to invest of the $35 billion or maybe even more. So over there, we are not constrained financially, and there's plenty of projects. So I expect us to be seeing more projects as we go forward.

Our recent success has been Jazan, has been working as expected. Any surprises there? And importantly, when do you expect to get cash from the project?

Number one, Jazan, I'm very happy to report that technologically, we did start the gasifiers and they worked, and because that was a concern that people had. That project is going -- it has been a great acquisition. We are working very nicely with Saudi Aramco because we are basically running half of the refinery. It's working out very well. And obviously, Saudi Aramco is a great customer. And I'm very happy to say that we have started -- we have received our first installment of cash because the way we get the cash is through the dividend. And the company is obviously getting the fee from Saudi Aramco. It has some expenses. The rest of it is a dividend, and we have gotten our first installment of dividend. And you will all see how much that is when we announce our results. So I'm very excited about that.

And that makes 2 of us. I wasn't expecting that to happen this quickly so that's very good news.

It's happening sooner than we thought, and that's good news.

Very good. Let me stop for a second. Any questions in the audience? If not, I'll keep on going. Your hydrogen strategy, first, how important is carbon capture to your hydrogen strategy?

Well, I think it's essential for blue hydrogen because if you -- some people are saying, I don't want to do carbon capture, I will contract it to somebody. But we are not -- the way we -- we are involved in carbon capture because we want to have control so that the other project, which is seamless. Obviously, when it comes to drilling the well for putting the CO2 into the ground, we get a contractor to do that, we don't drill wells. But the important thing is that we are not -- we are involved in the whole process. We understand the geology, we have hired people who understand the geology. We understand what is required, we understand how impairment these things. So that, I think, if you subcontract that, then you end up with the fact that you can build your project. And if the sequestration part, you haven't understood it well and it is not done properly, the entire thing -- the entire change doesn't work. So if you say you're not involved in CO2, then I can see how you can effectively be in the blue hydrogen business. So we think it's essential, and we have beefed up our staff to be able to handle that. But as I said, we physically are not going to go drill the well, but we know exactly what is going on.

And what role does gasification play in your strategy? And also, is any issue with sequestering CO2 from coal gasification projects in terms of the volume of CO2 produced from these projects?

Well, David, first of all, gasification is an integral part of our hydrogen strategy. Because at the end of the day, when you gasify anything -- in order to make blue hydrogen, you gasify natural gas. In order to make syngas that people need for chemicals, you gasify coal, but you produce syngas, which is a combination of hydrogen and CO. So that is an integral part. Then this question about the fact that if you gasify coal, you make a lot more CO2 or stronger than that, then you sequester more CO2. I mean if you do that in the U.S., you get more subsidy. So there is nothing wrong with that. We are doing projects in Indonesia and the project produces 4 million tons of CO2. The project in Louisiana that we are doing for blue hydrogen produces 5 million. So that, I don't see why that would be an issue at all.

Yes. I didn't ask about Indonesia. How is that project progressing?

Very well, very well.

The timeline for that project?

Yes. The timeline for that project is going to be around '25. Same -- not too far from what we have publicly announced.

Very good. And when we talk about the strategy that you're -- evolved to energy transition, I often get asked, what is Air Products? Are you an industrial gas company? Are you an energy transition company or are you a hybrid? How would you characterize Air Products today and going forward?

But David, we are not creating a new company or we are not changing. We are an industrial gas company. We happen to be today the largest producer of hydrogen. All we are doing is that we are saying that, look, for the future, we want to be the largest producer of blue hydrogen and green hydrogen. It's not as if you are changing the company. It's just -- it's the same company and we are maintaining our leadership. What is transitioning is that people rather than bundling gray hydrogen, which we make 10,000 ton of it a day, they want blue hydrogen and green hydrogen and we say, fine, we know how to do this, we have been in the business for 60 years, we'll do that. So it's not as if you're creating something new. I mean that's the misconception. We are an industrial gas company, just we're extending our leadership to encompass these new products, which makes sense. Why not? Who else -- who is better positioned to be in the hydrogen business of the future than the person who is the hydrogen leader of today?

So it would not make sense to split Air Products from a traditional industrial gas business versus the newer hydrogen projects...

No, because it's an extension of our business. I don't see any reason for that right now.

Understood. Not minding others.

Yes. Yes.

In terms of green blue, green hydrogen, how do you think they will develop going forward? And are you agnostic from a development standpoint in how you perceive these opportunities in those 3 areas?

Well, I think the way we develop is that the demand for blue hydrogen is going to be significantly higher than the demand for green hydrogen. Because blue hydrogen, you can make it from hydrocarbons, it is going to be cheaper, and it is -- addresses one of the main issues that people have, which is CO2 emissions into the atmosphere. Now some people don't like blue hydrogen because they say that by doing blue hydrogen, you are extending the life of hydrocarbons, and they want us to jump into -- everybody to jump into green hydrogen. But that is not practical because trying to develop projects, which is relying on wind and sun to make hydrogen in massive scale require a massive amount of capital. It will happen on time. And that is why we are involved in it, but I don't see us doing 15 NEOMs in the next 10 years. We do 2 or 3 or 4, but -- so I think the development will be a lot of blue hydrogen and then a few green hydrogen as we go forward.

And what's your limiting factor for additional projects? Is it your desire to be A rated? Is it engineering expertise? Other bottlenecks? What's the limiting factor for your growth right now?

Well, I think the limit -- if you take blue hydrogen, the issue is in order to make blue hydrogen, you need to be able to capture the CO2, which we know how to do, but where do you put it? So you cannot build the blue hydrogen facility anywhere in the world. It has to be a place where the geological structure under the ground is hospitable and friendly to the CO2 that you put in. Now the best place to do that is in -- off the coast of Louisiana, which is -- that's why we located our project there. But there are other places like the North Sea that you can sequester. There are places in the Middle East obviously, with all the depleted water wells and all that. So that is the constraint for blue hydrogen in terms of location. Then for green hydrogen, the constraint is having a place where there is wind and sun. One of the things that people I don't think fully appreciate is that for a project like NEOM that makes 650 ton a day of hydrogen, which is a lot, but it is not compared to the energy requirement of the volume, you need almost 400 square mile, 400 square mile of space to put in, especially the wind mills. So this is not something that you can do anywhere. And then wherever you do, you have to have the wind and the sun. You have to sun during the day and wind during the night. So that is going to be the constraint of finding a location. This is why it took us a long time to find Saudi Arabia, and it took us a long time to find the right location in Oman. So those would be the constraints.

And how beneficial are structurally higher energy prices in '25 oil to these projects in future developments?

Well, obviously, the fact that the price of hydrocarbons have gone up, it is making the alternative energy look more interesting. So that is helping. It obviously is helping. And when you can buy diesel in California for $2.50, and now you have to pay $6, it makes quite a difference in terms of the viability of alternative energy. So from that point of view, it's helpful.

I want to touch on some ESG and D&I issues. Your company's quite unique in promoting some really lofty goals, agendas around diversity inclusion, ESG. You may want to touch on those and what makes you passionate about this area.

Yes. Well, the thing is that we pay a lot of attention to all aspects of ESG because a lot of people think that, okay, if I'm doing something environmentally, now I have met ESG. And I say, hey, wait a minute, the environmental things you do, green hydrogen and all of these things, is just the E part. But an equal part is the S part, which is the social, and an equal part of it is the governance. So we spent a significant amount of time and effort trying to make Air Products a company that is a leader in the social side. And on the social side, number one, we start with having a higher purpose rather than just making a buck; number two, we pay a lot of attention to the composition of our company in terms of diversity. We pay a lot of attention in terms of where we locate our facilities and so on and helping the so-called disadvantaged communities. We pay a lot of attention in being a good corporate citizen and supporting the communities that we serve. So we really genuinely get involved. And on the governance, obviously, the composition of our Board, the involvement of our Board, our audit committee and compliance with all of those things. So we really take everything very seriously, ESG, all of that. And when we put out our report on sustainability, actually, we did it 2 days ago. When you read that, and I highly encourage people to take a look at that, we do have almost equal emphasis in all of these ESG in terms of -- we take it very seriously. And I think in time, people will give us credit for that. I don't think it's wasted effort at all. I think it's necessary and it's the right thing to do.

And what's been the reaction from customers on your higher purpose and your emphasis on these areas?

Well, the thing is that our customers, obviously, in general, like that. Customers, obviously, they are very focused on price and service and all of that as they should be. But I think that the higher purpose, the reason that I stressed the higher purpose, number one, is for the sake of our own people. Because if people come to work, and they say that the only reason I'm going to work is not to make a buck, and there is more to life than that, and I'm contributing to creating a positive environment and an environment that people love to come to work and all of that, we'll end up having a more productive workforce, which in turn, we'll have a better company. So we are stressing the higher purpose for the benefit of our own people. And then obviously, our customers, when they hear about it because we don't do a lot of external advertising for them. They obviously appreciate that. And I hope in turn, our investors kind of give us some credit for that.

And that kind of leads to my next question. What do you think is not reflected in your share price at today's levels?

Well, at today's level, if you do a valuation of the company, our stock is just the DCF calculation of the future cash flows of the existing business. We are getting 0 credit, 0 credit at $260 a share for NEOM, for blue hydrogen, for anything that we're talking about in the future. I mean at the end of the day, the decision of what our stock price is, is with the investors. But I think somehow the investors are under the impression that there is a lot of risk in these projects, the execution, inflation and where are the customers. Well, those things, the only way I can answer them is give us time, we'll demonstrate to you as we have done. We did a $2 billion project in Saudi Arabia. We finished it a year ahead of schedule and $300 million less than the budget. But those are the things that you just think to demonstrate to the people. We are right now executing 163 projects, and we haven't messed anything up, at least not yet. But -- so I think that is one reason. Then the second thing is, well, you have announced the project NEOM. You don't have a take-or-pay for the product. Of course, I don't want to have a take-or-pay for the product, because I think that product is worth something today wherein 2027, then we are the only one who have the product, it's worth something different. So with those things, we are not running the company based on looking at the stock price every day. But -- so that -- and then obviously, the investors are concerned about the general economic condition, geopolitical conditions. But for us, I think the challenge for us is to demonstrate 2 things at the same time. That not only we are doing this, we have a good strategy for the future, but we need to deliver every quarter. That means we are very focused on the short-term performance, because we don't want to kind of people think that we are only dreaming about the future. We are very much responsible for delivering the results every quarter. And hopefully, we are demonstrating that. Because Air Products, I think, had fantastic results for our second quarter despite what's going on in the world. But as I said, at the end of the day, the investors decide what they should pay for the stock. But there is a third reason that, I think, in addition to all of the things I said, is that we have decided not to buy shares. Other people, as soon as the stock takes a dip, they go buy shares so the share price goes up. And the investors feel they have a cushion that if something happens, the company will buy the share. I mean some of our competitors have spent $13 billion buying their shares. We have spent that $13 billion investing in the future. So at the end, we'll see which one is a better strategy.

Great place to stop. Seifi, Melissa, thank you very much, and thank you all as well.

You are great. Thank you for your good questions, appreciate it. And it's always a pleasure to be with you, Dave.

Thank you.

Thank you very much.

Thank you.