Air Products and Chemicals, Inc. ($APD)

Hi, good morning. I'm Jeff Zekauskas. I analyze chemicals for JPMorgan. This morning, it's my pleasure to introduce the management of Air Products. Representing Air Products is Eduardo Menezes who's been CEO for 1 year. And Eduardo had a long tenure at both Linde and before that Praxair. And I think he managed every major geographic region at one time or another for Praxair, Linde and he's come to Air Products to change the direction of the company. He's joined by Melissa Schaeffer, who is Chief Financial Officer since 2021 and Megan Britt, the Head of IR is in the audience as is Caitlin Miller, her assistant. The form of our presentation this morning will be fireside chat.

Eduardo, the world has changed with conflict and Iran. Is this something that's touched Air Products' business or touched either demand or the way your customers are looking for your services?

Absolutely, right? So the last 3 weeks, they have been a little hectic to say the least. I would divide the effects in 2 categories, right? So we have the effects in the ground in the region. Air Products has a significant presence in the Middle East. It's a combination of companies that we own 100% that operate in several countries, normally around Saudi Arabia. We have operations in Oman, in Qatar, in UAE and in Bahrain. We also have operations in Egypt and Israel that are also owned 100% by Air Products. And in the Kingdom of Saudi Arabia, we have several joint ventures that we own between 25% and 50%. And those joint ventures, they vary from the largest traditional industrial gas company in Saudi Arabia that we own 25% for several years now, which is not a big number in terms of revenue, but it's a lot of employees in the area. Then we have the joint ventures with Saudi Aramco in Jazan and in Jubail and we have the project under construction in NEOM. So overall, we have directly and indirectly with the joint ventures, thousands of employees in the region. So main concern is the security of our people, making sure that everyone is safe, making sure that we are taking the right actions to protect the people and the assets, and that has been a lot of the efforts we have. So these are the direct impact. I would say that other than a closure in the plant, a small plant here and there and some issues bringing people from the outside of the region traveling in and out, we haven't feel a lot of impacts on that. But the business will suffer over there, although it's a small business for us in terms of top line and what we consolidate. That is the impact in the region. On top of that, of course, we have the impact outside of the region with the closure of the Strait of Hormuz. Everybody knows about that, that Qatar Energy and basically stopped shipping LNG, shut down the plants that has an impact -- a significant impact on energy prices in Europe for us that we have a large operation there. And we have the impact in heating that is affecting the global supply, although at this point, our own production out of Qatar was relatively small. So we are not being affected directly on that, but indirectly within the entire market.

With energy prices, I think energy prices in Europe are $17 an MMBtu on that order of magnitude. And obviously, naphtha values are higher, and so gasoline values go up. How does Air Products prepare for this inflation that it will face in its operations? Are you placing surcharges yet? Or you're waiting to see what the duration of the conflict is.

Yes, you have 2 different kinds of effects there. So natural gas went as soon as they start the war went to equivalent $15 per MMBtu jumped to $18. So you could tell me it varies every day. We have a significant consumption of our hydrogen plants, but those agreements normally we have a pass-through. So that goes straight to the customer. We may have an effect if the consumption goes up or down a little bit, but that doesn't affect so much our bottom line is more an effect on the pass-through on the revenue side. In addition to that, of course, when you have the natural gas prices going up, energy prices go up, right? So we have energy prices going up in Europe, and that affects our gas separation side of the business more than anything else. On the gas separation side, on the large agreements, where we have pipelines, we have the same scheme that I described for hydrogen and natural gas pass-through. On the liquid business a little more complicated. We have formulas and we have triggers. We have in some cases, we have to do surcharges. So we try to pass that to the customers as fast as we can. But of course, the environment is very complicated right now with this high energy prices in Europe.

So the part of the business in Europe that's affected, I would imagine, would be the merchant business.

Correct.

And so do you try to move quickly or there's a natural piece of inflation that begins to pass through so that the customer gets to see things. And then what you do is you capture the margin with a lag. Is that the general strategy?

Yes. There is always a little bit of a lag, but we try to keep that to a minimum as much as we can. As you never know what the volumes will be after that. So you can be unfair to the customer to yourself if the volumes fluctuate between the time you observed the increase in cost to the time that you are able to pass that to the customer.

So you spoke of Qatar Energy closing its LNG operations or suspending them for a time. And of course, they're a large supplier of helium. When you think about the helium industry, you have caverns and Linde has caverns, Air Liquide has caverns. If you look across the world, how much helium is in those caverns relative to the global market?

Yes, I think you can find information on the size of the cavern, the theoretical size of these caverns, how much is inside the cavern is something that we only know for ourselves, right? We have no clue of how much our competitors have in their caverns. It's a relatively new thing for the industry because before we had the BLM that had a big dome that basically worked as a storage. I think when the BLM started to dwindle, the companies try to understand what to do. I think Air Liquide was the first one to put a cavern in Germany, which was a little bit of a different place. We opted -- we were the second ones to put a cavern. We opted to do that in Texas. Again, cavern is we do a lot of work to take helium from natural gas to purify and to liquefy that, right? Storing large volumes of liquid is not practical for the temperature and the cost of doing that. So you need to store the gas in a cavern like that. So you need to take the liquid basically pump and vaporize or vaporize and compress, but you need to store that in a cavern in a gas phase. And then you need to take out of the cavern and you need to liquefy that again. So what we elected to do in the U.S., we have big liquefaction plants in the center of the country in Kansas and [indiscernible] of Texas that were designed for operating with the BLM reserves. So we basically have a structure that we have the cavern in Texas. And if we need to get product out of that cavern, we take the product in the form of gas. We have some special transportation equipment that we bought and we design and bought them specifically for that in the gas phase that moves the product to Kansas and then we can reliquefy the product and put back in the supply chain so it is a little bit of a complicated scheme. It takes some time to basically put that in motion. And we did that since the war started, and we will try to run our liquefaction plant at full capacity as we used to have many years ago. We still run the plant independent of all that, but we still have a little bit of a supply there in the area. But we're going to run that plant at the full capacity using these high-pressure trailers of gas that will bring from Texas.

So when I think about the cavern storage space for the industry. It looks to me like the -- like it's about a year's worth of helium supply if the caverns were full. Do you think that's fair?

I think globally, a little less than that. But for -- we don't -- we didn't design and build this cavern for others, right? We did it for our own supply, yes, that's correct. But if you take the entire global volume and all the caverns together, I don't think we get there. And I think the largest one that was commissioned by our competitor in Texas, I think it was relatively recently. I have no idea how much product they have there, but it's not very likely that it's full. So you need to...

No, no. And Qatar's output I thought was about 55 million cubic meters out of 176 million cubic meter market. So if the industry can liquefy and if its caverns are maybe 60% full. In theory, there should be enough to cover the shortage over even a very extended period of time. Do you think that's fair? Or do you think conditions are different?

Yes, again, I know my numbers. I know for us, it's true. I think for the others, I don't know how much -- the assumption of if the cavern is full is very big. I don't know how much liquefaction they have associated with each of these assets. And again, you need to -- this is not a market that's different from the air separation that we have the control of the molecule, the control of the production chain. Basically helium is a byproduct from natural gas, right? So one of our biggest sources was Algeria, and our plant in Algeria was down for several months. We're very lucky that this plant is back in the last 2 weeks. But we don't control the sources, right? And that's -- and I keep saying that, that the helium market became much more volatile in the last few years, when the BLM went away. I think we -- Air Products is doing the right things, thinking about the security of supply for our customers, and that's what we're focused on. So we will be able to continue to supply our customers and when we have Algeria full in the supply chain, and we have the liquefaction in the U.S. full in the supply chain. We will have even a little more that we can take over volumes from that are not being supplied by us. But it's not that much and I don't know the position from the others to know if the entire market will be in balance. But I think there is a lot of people talking about that a lot. I think at the end of the day, the most critical customers, the industry will find a way to keep them supplied in the next few months, even if the conflict goes forward. But you're going to have some hiccups here and there, and you're going to have some less vital sectors that will suffer a little more than the electronics or MRIs and that kind of stuff.

Do you hold helium inventory for the large electron customers? Or do they keep their own inventory on hand?

In most cases, the customers don't own the containers. So the industrial gas companies own the containers. So we will have whatever containers we have at the site. And in some locations because of the structure of supply because we supply directly to some very large customers with containers, we also supply our own transfill units where we take helium from large containers and we're putting smaller dewars and cylinders and so forth. So for example, in Europe, we have a place where we have a certain inventory of containers -- full containers because we don't have heating production in Europe, it comes from Qatar, comes from the U.S., from Algeria. So we have some inventory. But you're talking about high single-digit number of containers. And that can help the industry in -- and I think that all the competitors are the same. I think that will help the industry for a period of a few weeks. But if you go for months, the inventory really will be consumed.

I think helium consultant made a comment that since the conflict began, helium prices were up between, I don't know, 20% and 40%. That's not the industrial gas spot price that's the price of buying helium from a raw source. Is that correct?

No, I think it's a consultant. So you take it to value of that. There are spot sales from some of the sources that, of course, if they have a spot sale, they would go up. But I'm not in that market. I'm not buying spot product in the market. And I -- a lot of our contracts are long term. So they have prices, the ones that are not, we are pricing them as we normally do, in our activities everything.

So has your helium business changed very much in terms of prices or volumes since the conflict began or...

No. You cannot move, you cannot change that much in 2 weeks. It's a 85-year-old company. In 2 weeks, we don't change that much.

Okay. Maybe a last question on helium. Can you tell us just a little bit about the Gartner business that you have? And a little bit about how many containers are shipped either per day or per year? And how Air Products fits into the helium supply chain?

Well, Gartner is a company that has been producing this helium containers for decades now. And in fact, it was an acquisition by Air Products. I don't know 70s or 80s. So we -- it's right there in Allentown so by next door. And the entire helium market globally, I would say, has couple of thousand containers that were built during the history that are still in activity. And we probably have a very significant piece of that was built by Gartner, right? So historically, we keep that business on the side and we produce containers for our products is our first priority. But if we have capacity, we'll produce containers for others as well. And they do -- their specialties is not really only helium, right? It's deep cryogenics. So cryogenics of helium and hydrogen. So they produce also liquid hydrogen containers, liquid hydrogen tanks, which are very specialized as well for the temperatures that they operate.

Thank you for that. Since the conflict began, there's been all kinds of elevation of petrochemical prices, oil prices, different refinery values. When you look at your business in North America, have the volume patterns changed recently?

Our volumes have been very strong, but I'll let Melissa comment on that as well. In the next 3 weeks, if we have any changes on that.

Yes. The last 3 weeks is a little bit of a near term. But what we did see even leading up to the war was actually we saw the refineries running very strong. So our HyCO business in the U.S. has been running very, very strong. We've got a HyCO asset in Europe that was also running very strong. So we have continued to see those volumes increase both before and during the crisis.

And the chemical industry, do you detect a change in their operating rates in the U.S.

A little too early to say. I think the U.S. will be one of the areas that we'll gain with this crisis because of the natural gas prices. So they should be operating at higher volumes, but it's a little too early to say.

Too early to say. So some of the PMIs -- so the PMIs for January and for February were positive for goods production in the U.S. Did you detect a change in your business? Or since the PMIs were so negative in December and November? Was it more a reaction to that weaker period?

It's a good question. We actually have seen pretty strong volumes in the Americas. We saw relatively strong volumes in Q1. We've seen that continue to progress in January and February. Obviously, we're getting to close to the end of the quarter so we'll be assessing the full quarter. But yes, the answer is we have seen volumes increase in the Americas. Now if that's a short-term phenomenon, we'll see, but it seems like sequentially, we have seen volumes continue to be pretty strong in Americas.

So the industrial gas industry has been characterized over a multiyear period by positive pricing and generally weak volumes are flattish volumes. And in the case of Air Products, I think your sequential prices have been flat for 3 quarters in a row. Now sometimes when you calculate it, there's rounding and so things can kind of move up or change. Can you talk about your -- the last 3 quarters of pricing and why pricing seems to be flattening out for the industrial gas companies, if it is?

Yes. I think there's a lot of things that go on this math, including helium that was under significant pressure in terms of price for the last several quarters. But Melissa, you can...

No, I think that's spot on. So what you're seeing right now, Jeff, is really just the helium story, right? So pricing has taken a hit on helium, which we've talked, right? For the last couple of years, we have seen pricing take a hit on helium. Non-Helium pricing, however, has been pretty strong. So we've seen improvements in both the Americas and Europe and non-helium pricing. Asia is still pretty flat on the non-helium space. But in the Americas and Europe, we are seeing appreciation in pricing.

So I believe last year when you gave your outlook for fiscal 2026. You said helium is tough for us. Maybe it will hurt us by $150 million and I think 95% of your helium business is contracted as under long-term contracts. So because of those contractual obligations, is that forecast still realistic for this year as a base case because of the way the contractual terms worked.

Yes. I think it's a little early to say, Jeff. When we give the forecast, we include in the forecast, our expectation of several renewals of disagreements during the year, right? So -- that is included on the math. And now with this crisis, I would say that we have a better chance to renew these contracts in a better terms than we anticipated before. But again, it's only 2 or 3 weeks, and we need to see what the effects will be.

Maybe you can give us an update on the NEOM project. What's the status? Where is it in its construction? Has it been slowed by the conflict in the Mid East or not really touched very much?

No, it hasn't been touched that much. I would say that the only concern we have right now is for people moving in and out in the region. It's -- traveling is a little bit restricted now. So we put a lot of procedures for that to trying to facilitate that, but there is an effect on that. But we, at this point, we don't expect that, that will have an effect on the schedule of the project. The project is basically 3 different sites, one for wind power generation one for solar. And the site -- the biggest site is where we have the electrolyzers, the hydrogen generation, the ammonia plant, the ammonia tanks and so forth. So I would say that the 2 power sites are almost complete at this point. The solar is basically done. The wind, I think we have 1 or 2 less than 10 turbines to finish. And the transmission powers, the transmission towers are done. So on the power side, we're very close to be completed right now, which is what we had to do because this is a very complicated start-up process and that we cannot start the plant without having the power, right? And we are generating our own power. So this is done, the construction on the main site is very advanced. I would say that we have several plants that are already -- several areas that are already in commissioning. So we are commissioning the separation plant. We have commissioned the tanks, the flare, things like that. We will progress with that commissioning during this year. And the intent is to start making ammonia by the end of the year and get to full production at some point in 2027. It is a first-of-a-kind plant, never built anything before this size. The aspects of having renewable power that -- and the obligation that we have on ourselves to produce ammonia 100% of the time with renewable power, right, which varies from day to night from wind to no wind and so forth. This is all new in the system. So we are working on all that. It is, I think we have images on our website, is a fantastic project from an engineering point of view. But we are -- we're not going to be done until we're done and the product is in the tank.

So I think the capacity of NEOM is 1.1 million tons of ammonia. So call it 1 million tons. And Air Products hasn't really disclosed exactly what it buys the ammonia for. But I don't know, maybe it's $500 a ton and maybe ammonia, order of magnitude $600 a ton. So maybe you'll make $100 a ton. So is the general expectation that maybe you'll make $100 million a year from NEOM when it's fully up and running plus or minus a little bit. And it's on a $5 billion EBITDA base. So in terms of Air Products. So it's a large project. But for Air Products, these are the rough -- just the rough math.

Yes. It's -- well, first of all, the plant can make a little more than that. I think that is the expected volumes around 1.1 million tons. The plant is -- I think, is weighted for 4,000 tons a day so you can do the math. But it's -- because you have to count on these fluctuations on day, night and power and so forth, right? So net production, around 1.1 million. That's the expectation at this point. Yes, the price is something that we keep very disclosed, if you want, for now. It is a new product. It's the first large-scale green ammonia plant in the world. So you are doing your math with what you think the price is there versus what the market price is for gray ammonia, right? So it's a simple math and that you can think that way. But of course, our objective, we didn't build that plant to sell ammonia at gray ammonia prices, right? That would be a mistake, right? And we could have made a mistake, but not on that on purpose, right. So the objective here is to sell that as a premium, right? So how much we're going to be able to sell as a premium on year 1 is a question mark, but I can guarantee you the number is going to be lower than the number that we're going to be able to sell in year 5 or year 10 or year 15. So there will be a progression in the margin because our cost is basically fixed for the duration of the green because we don't have a variable cost, so back integrated. So we're working very hard to maximize the numbers. We -- there are a lot of announcements in this industry. I think 2 days ago, there was a big announcement from other people. But no one can show you a plant that is really under construction that is really going to be there. And frankly, very difficult to find a place better positioned to do this project than Saudi Arabia because of the wind and the solar characteristics, the value of the land and so forth. So I think we're going to have a project that, in the long term, will be a very good project for our products. Short term, it's difficult to forecast, and we are going to work as much as we can to make as much as we can. But your math is based on current prices, which, by the way, are higher than that now because of the conflict as well. But we'll need to see what happens there.

So it sounds like you aspire to earning more than $100 a ton.

It's simple math. We talked about that. The total project, $8 billion -- I think, $9 billion if you take 30% of ownership of Air Products, right, we -- $100 million is not the right number for if your investment is $9 billion so it's not that difficult.

So is the basic plan to sell ammonia up until 2030 rather than hydrogen from the plant at NEOM. And then you'll see what the status of your total relationship is in Europe because you're obligated to provide them with hydrogen.

Yes. We'll know way before 2030, what we'll be doing in terms of hydrogen in 2030. But 2030 is a day today from the EU for the new legislation that you have to use RNBO fuels. There is still -- there is a directive from the EU that has been transposed by each country. They are delaying the process. Now they tell us that they're going to have the transposition done by the summertime. So hopefully, by some point at the end of this summer of this year, we'll know how much demand will be in Europe for this product so we have to wait for that to understand, and we're going to need to make investments to transform this ammonia into hydrogen, right? In the meantime, we need to do something with the ammonia that we're buying since 2027. So that's why we're working on that. And of course, even after that, if the market is better for ammonia, then it is for hydrogen, that's what we're going to do. It's not a -- we don't have an obligation to go one direction or another. We need to do the best we can for our own shareholders.

It is the contractual arrangement with Total, an arrangement where either party can decide not to go forward with the arrangement, if it's economically unfeasible for either party.

It's not economically feasible if the legislation doesn't support the project the way we want, the project to go forward. So it's related to what will be the legislation in each country. And again, it's for the countries where they have operations and they are interested in having hydrogen supply. So if they do not have a refinery in Portugal, it doesn't matter what the legislation is for Portugal just for mainly Belgium, the Netherlands, Germany and France, which are the biggest targets here.

Of course, there's your Darrow project with the with the Europeans. When you think of where you were with Yara when you first negotiated the agreement and you think of where you are now? How is your attitude towards the project different? That is what understandings do you have or how do you think about the project differently now than when you did when you first announced it?

No, it's -- what we're trying to do is really a partnership, a strategic partnership between the largest hydrogen producer in the world with the largest ammonia producer in the world. So we're not doing that, thinking about the short term. We're not talking about that, doing -- thinking about only 1 specific agreement. We're doing that, thinking about what we can do together. I think the level of cooperation is very high. We are working together on the understanding on the development of the project, the context that we have of engineering companies, Yara is participating, helping with the design and giving their opinions on things that we should have done. So we are trying to work together in this phase. And I think nothing changed at this point. We're going to get to a resolution by midyear. And if we both sides believe that we have a feasible project we're going to go forward. If we don't, we're not going to go forward. It's simple.

Okay. Thank you very much. Thank you for your attendance.