Chemtrade Logistics Income Fund (CHEUN) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen, and welcome to the Chemtrade Logistics Income Fund Q1 2024 Conference Call. [Operator Instructions] This call is being recorded on Thursday, May 16, 2024. I would now like to turn the conference over to Rohit Bhardwaj, Chief Financial Officer. Please go ahead.

Thank you. Good morning and thank you for attending Chemtrade Logistics Income Funds Earnings Conference Call for the first quarter of 2024. Joining me on this morning's call is Scott Rook, our President and CEO. We will begin this call by providing a brief recap of the first quarter results we announced yesterday in addition to our updated 2024 guidance. Scott will then provide comments on the outlook for our key products and provide thoughts on various growth initiatives. Following our prepared remarks, we will open the lines for questions. Please note that this call has an accompanying slide deck, which is available on our website, chemtradelogistics.com. Before proceeding, we would like to note that today's call will contain certain forward-looking statements that are based on current expectations and as subject to a number of risks and uncertainties. Actual results may differ materially from expectations. Further information identifying risks, uncertainties and assumptions and additional information on certain non-IFRS and other financial measures referred on this call can be found in the disclosure documents filed by Chemtrade with the securities regulatory authority available on sedarplus.com. One of the measures that we will refer to in this call is adjusted EBITDA, which is EBITDA modified to exclude noncash items such as unrealized foreign exchange gains and losses. While our accompanying presentation refers to adjusted EBITDA, we'll refer to it simply as EBITDA in our remarks. Beginning now with our first quarter results, which we believe demonstrate a strong start to 2024. While the financial results we generated this quarter were lower on a year-over-year basis, it is important to note that Q1 of 2023 marked a record Q1 for Chemtrade, making a direct comparison difficult. In Q1 of 2023, we benefited from several factors, including substantially higher realized caustic soda pricing than in Q1 of this year. That being said, the results we reported this quarter were ahead of our initial projections. This reflects the strong execution on the part of the entire Chemtrade team. Most of our businesses performed well. The continued focus on reliability, productivity, execution and commercial excellence across our diversified portfolio continues to yield strong returns and support our operational and financial performance. EBITDA margins remain robust, and we continue to generate very strong cash flow that is well above our distributions. Our balance sheet remains well positioned to pursue accretive growth and other value creation opportunities. Looking at the sulfur and water chemicals segment, which I will refer to as SWC moving forward, revenue was $230.6 million, reflecting a decrease of 12% year-over-year. EBITDA for the segment was $51.4 million, a decrease of 7% over last year. Water chemicals were once again a standout performer this quarter with higher selling prices contributing to margin improvements. In merchant acid, we had lower volumes year-over-year, which can be attributed mainly to reduced byproduct supply. As a reminder, roughly half of our merchant asset is obtained under long-term contracts for metal smelters. Merchant asset selling prices were also lower, but the pricing impact was mitigated by our risk-shared contracts with the suppliers which allowed us to keep our margins relatively flat. Merchant asset remains a very resilient business for Chemtrade. After a decline during COVID, regen acid has performed well. And looking ahead, the regen asset market remains a relatively stable business line for us. In sodium nitrite, the maintenance activity to asset process improvements discussed last quarter carried into the first quarter of '24. While these improvements did negatively impact overall volumes for sodium nitrite in Q1, the work is now complete, and the improvements are starting to pay dividends and should benefit the long-term performance of the sodium nitride business for Chemtrade with increased reliability moving forward. In the Electrochem or EC segment, revenue for the first quarter was $187.6 million, reflecting a decrease of 10% year-over-year. EBITDA for the period was $82.5 million, which declined 17% compared to Q1 of '23. This decline was almost entirely attributable to materially low caustic soda pricing on a year-over-year basis. In Q1 of 2023, our caustic soda pricing was based on an index of over USD 650 per ton, where in Q1 2024, the index was USD 300 per tonne lower. The partial offset to lower caustic soda pricing was improved netbacks for both hydrochloric acid and chlorine, which offset about 25% of the decline in caustic soda. But in recent quarters, chlorine pricing was a more meaningful contributor to performance than hydrochloric acid, this dynamic has now slipped in hydrochloric acid pricing now having a bigger impact than chlorine pricing. Looking at corporate costs. Our corporate costs in Q1 were essentially flat on a year-over-year basis, which was in line with our expectations. Looking at the balance sheet, we ended Q1 in a very strong financial position with low financial leverage and significant financial flexibility. At the end of our quarter, our net debt to adjusted EBITDA ratio was 1.9x, which is up slightly from the end of '23, but an improvement from 2.2 at the end of Q1 '23. Based on our guidance, we expect this leverage ratio to remain at or below 2x at the end of '24. We have no debt maturities until September 2025. We also have significant undrawn capacity on our revolving credit facilities in addition to cash on hand. Given the significant improvements made to our balance sheet in recent years, we are now in a great position to be able to evaluate and pursue various potential value-enhancing initiatives. Yesterday, we announced our Board's approval of the initiation of a normal course issuer bid. This will offer us another potential avenue to return capital to our unit holders. We're also looking at other opportunities to further optimize our capital structure, including retiring the convertible debentures that are maturing next year at the earliest opportunity. We're also looking to supplement our organic growth initiatives with M&A should we identify an opportunity that fit strategically within our portfolio and a synergistic value. The acquisitions we would target would primarily be those with annual EBITDA in the $10 million to $50 million range. Any opportunities we try to pursue will be aligned with our commitment to balancing capital allocation across our 3 core pillars: investing in strategic growth, maintaining a strong balance sheet and returning capital to our unitholders. Moving to our 2024 guidance. We now expect that 2024 EBITDA to be at the higher end of our previously communicated guidance range of between $395 million and $435 million. This update reflects our strong start to the year and our continued confidence in our ability to deliver strong performance for the balance of 2024. We remain well positioned to again deliver one of the best years for EBITDA and Chemtrade. I would like to reiterate a couple of points made during our last conference call that are still relevant when thinking about the trajectory of our earnings through 2024. We expect the second half of 2024 will be stronger than the first half of this year. This is primarily owing to the biannual turnaround at our North Vancouver facility, which we have just completed. We anticipate that the turnaround cost us roughly $15 million impact, and this will impact Q2 for EBITDA. In addition, since the second quarter last year was the highest EBITDA quarter and came to its history, we can expect that EBITDA for Q2 2024 will be lower competitively speaking. Again, this is primarily due to the higher caustic soda pricing that we benefited from last year and we have the biannual turnaround this year. Note that our guidance does not consider the impact of the anticipated labor disruptions that the rail companies used to transport our products. The impact would depend on the length of the disruption. And since it is unknown, we have not factored this into our guidance. The assumptions underpinning our 2024 guidance are available in our disclosure documents. Please refer to these for additional information. I will now hand the call over to Scott to provide some commentary on our outlook. Scott?

Thank you, Rohit, and hello to everyone who is joining us on this morning's conference call. We value both your continued interest and support of Chemtrade and are pleased to be sharing our strong first quarter results with you today. We believe we have established a strong foundation at Chemtrade in recent years. We have focused on improving both reliability and execution, and our first quarter results are reflective of these efforts. We anticipate this year will be another year of achievement and progress for Chemtrade, and we look forward to continuing to execute on the significant opportunities that lie ahead. Looking across the key products in our portfolio, we continue to expect strength in a number of areas and relative stability in others. Starting in our SWC segment, we are expecting another strong year for our water chemicals business. Demand for these chemicals remains robust, and we are seeing good pricing as well. In addition, the investments that we have made in the water business, including capacity expansions for higher growth products, PAC and ACH continue to yield strong results. While alum used to represent the bulk of earnings in our water business, we have grown our specialty water chemicals to be roughly 20% of the business. We are making additional investments in this business to drive growth in 2025 and beyond, which I will elaborate on shortly. In our sulfuric acid business, the outlook for region remains strong with demand continuing to be solid, supported by vehicle driving activity and demand for gasoline alkylate. In merchant acid, we're expecting a year of relatively normal performance. Our risk-sharing agreements are contributing to this stability. However, I would note that the merchant acid business had a fairly strong year last year, so we do expect some moderation this year. Our ultra-pure sulfuric acid business remains unchanged. There is a continued strong outlook in the ultra-pure market, which is supported by new semiconductor manufacturing coming online in North America over the next several years. Under the CHIPS Act, the U.S. government has awarded over $23 billion in the first quarter of this year to support new construction of semiconductor fabs. We have shared the various investments we are making to maintain our North American leadership position in ultra-pure acid, and I'll provide an update on those projects momentarily. Moving to our Electrochemicals business. We continue to see benefits from our advantaged cost position relative to overseas manufacturers. Our facilities are cost competitive on a global scale, given our access to stable, low-cost renewable hydroelectric power, and we expect this to remain the case for years to come. This advantage is leading to export opportunities for some electrochemical products while also contributing to improved pricing and demand. For instance, our branded Manitoba sodium chlorate facility is both one of the largest and one of the lowest-cost sodium chlorate plants in the world. We are anticipating our sodium chlorate volumes to be about 5% lower on a year-over-year basis this year. This is due to pulp mill closures in Western Canada, but we expect much of the volume impact to be offset by continued strong pricing. In chlor-alkali, as Rohit mentioned, we recently completed the biennial maintenance turnaround at our North Vancouver facility. The turnaround was completed on schedule. The plant is now back to operating at normal levels. We currently estimate the impact to EBITDA from this plant turnaround will be roughly $15 million. We will confirm this impact when we report our Q2 results in August. Underlying fundamentals on the chlorine side of the chlor-alkali process remained favorable. Pricing and demand for both chlorine and hydrochloric acid remains strong. The North American merchant chlorine market remains tight. Canadian rig counts remain well above the 5-year average, and we expect continued steady demand for hydrochloric acid. The new LNG pipeline and export terminal is coming online in Western Canada. It is expected to drive additional Canadian natural gas production and further support hydrochloric acid demand and pricing over time. We expect continued strong chlorine and hydrochloric pricing for the balance of the year. Our guidance assumes our 2024 BCU netbacks will be about $210 million lower compared to last year. Moving to caustic soda. Our guidance assumes that our realized caustic soda pricing this year is based on an average Northeast Asia index price of USD 375 per ton, which is down about $80 per ton year-over-year. As we have previously mentioned, the first half of last year benefited from higher caustic pricing relative to what we anticipate the first half of this year. This change significantly impacts our year-over-year financial comparisons. However, we have recently seen Northeast Asia caustic index pricing begin an upward trajectory. Based on Taiwan contract pricing and commentary from industry consultants, we are optimistic that index pricing has hit the trough and started to rebound. As a reminder, every USD 50 per ton change in pricing has an annual impact on EBITDA of roughly $12.5 million. Given all this, we believe that caustic soda could return to a positive contributor for EBITDA on a year-over-year basis. Turning now to our organic growth projects. We continue to expect we will allocate between $60 million and $90 million to growth capital expenditures this year. Approximately $40 million is dedicated to our ultra-pure sulfuric acid business, with the balance going to other areas, including water chemicals. In the ultra-pure acid, our Cairo expansion and upgrade project is nearing completion. We expect that the additional capacity will start up early in the second half of this year. Following this, we will begin providing sample product to our customers for quality validation. Given that this plant will be the first in North America to meet the quality requirements for next-generation semiconductor nodes, our customers are eager to receive these initial shipments. We're also undertaking continuous quality upgrades at our other ultrapure facilities this year. These investments will ensure that our plants are well positioned to serve this industry in the years to come. In Water Chemicals last quarter, we announced that we are adding new PAC and ACH lines at several existing facilities this year. These additions support our ability to meet growing market demand. I'm also happy to announce this morning that we'll be building a new specialty water chemical line and our Augusta, Georgia facility this year. This project is in addition to the projects we have previously mentioned. While no single line is a large earnings contributor in itself in our water business, this is part of our broader strategy to aggressively grow our water chemicals business. As an example, the new specialty line in Augusta is expected to add an incremental $3 million to $5 million of EBITDA annually. We will continue to evaluate additional strategic and high-return organic growth opportunities across our business. As Rohit mentioned, our balance sheet is now in a position where we are increasingly considering various M&A opportunities in the range of $10 million to $50 million earnings per year. Rohit also highlighted that our Board has approved a normal course issuer bid, which will enable us to, from time to time, repurchase a portion of our units with available funds that are not required for operations or investment. I believe Chemtrade is currently better positioned for long-term success than at any other point in my 5 years with the company. We're coming off back-to-back record years for earnings. As a result of the improvements we've made, our earnings and cash flow generation have undertaken a step change when compared to prepandemic levels. We have a strengthened balance sheet and a compelling combination of defensiveness and growth. Our portfolio is diversified with significant regional market share across our key products. We have instilled a culture of operational and commercial excellence. On top of this, our unitholders receive an attractive monthly distribution. We believe that by continuing to build on our established track record of success will ultimately see increasing confidence in Chemtrade's fundamentals and outlook, which will drive our valuation to more appropriate levels. We look forward to continuing to deliver for the benefit of our unitholders during the balance of this year and the years to come. Before opening the call for analyst Q&A, I would just like to remind you that we'll be hosting our Annual General Meeting shortly after this call concludes at 10:00 a.m. Eastern at the TMX Market Center in Toronto. You were all welcome to attend, and we look forward to seeing many of you there. With that, operator, please open the call for questions. Thank you.

[Operator Instructions] Your first question comes from the line of Ben Isaacson from Scotiabank.

So, in regard to the Cairo plant, we know you will provide some return metrics once it's operational. And you've mentioned you will be sampling and marketing its production. But is there a big enough market in the U.S.? We've seen a lot of delays in semiconductor fabs. So, anything you can tell us on current demand dynamics would be appreciated like late '24, early '25?

Yes. So, it is true that many of the fabs have delayed their expansions plans compared to their initial projections from 3 years ago. However, the new advanced node production, the first fab is starting the second half of this year with a second fab starting early next year and then other fabs continuing to come after that. So, our plan is going to be the first plant in North America capable of producing the quality to meet the advanced nodes. And so there's a lot of interest in that. And so, we are working with all of the fabs that are starting up. They're very anxious to receive samples. And so that process will start the second half of this year. So, we believe that we're still on track. So, I'm not as worried about our payroll expansion. So even though the fabs have delayed, let's say, the number of fabs that they're bringing on, I don't think that will have much of an impact on Cairo because the fabs that are being built are very interested in the material coming from Cairo. I think that the delay in the fabs could have an impact in the total demand, let's say, that's going to come out that will be there 3 to 4 years from now, which could have an impact. I think that's part of the reasons why the joint venture is on pause. But specifically, to answer your question, Cairo, I don't see that having an impact.

And your next question comes from the line of Jacob Bout with CIBC.

So, you're talking about M&A now and just areas that you are looking at, are these going to be complementary or would you be looking at any other new areas or new products? And I guess the second part of the question would be is M&A dependent on what happens with the Arizona ultrapure plant?

Let me start out and just to address that the joint venture is or the joint venture remains on pause. And so in our previous projections, we are anticipating that we might be spending money on the joint venture project now, but that project remains on hold. And so really won't share much of a comment other than it remains on pause. I will share that our joint venture partner and Chemtrade, we are in discussions with the U.S. CHIPS office. And so, they're very active discussions. We understand that the CHIPS office will or has made money available for projects, but we're negotiating with the government and seeing what will come of that. But I think the fact that the fabs have delayed the timing of their projections could have an impact on that. So, I think we're in a position now to allocate money towards growing with M&A. So, although we'll see what happens with the joint venture, but we have money now, I think, to grow the company. And as we've discussed with our Board, we think that would be a good use of capital.

And then are these in complementary areas or?

So, in general, we have a list of industries that we like that primarily would be strategic fits and complementary to our existing businesses.

And then it's got to be difficult, though, given where your multiple is right now for an accretive acquisition.

Yes. I think that's a very valid point. But we think that in order to grow the business for the right acquisition, we know we'll have to pay through our multiple, but we have created significant flexibility here. So, we anticipate the kind of acquisitions we're talking about to know what to involve us having to raise equity or capital. So, we are comfortable for the right acquisitions for the right reasons to pay through our multiple because we know that it's important to grow the business, and we can't see a path of buying something at our multiple.

And I wanted to go back just to some of your prepared commentary there about Netbox. And you made a comment about being down about $210 a tonne. Is that for the year or for the second quarter?

That is for the whole year that is 210 per MCU.

And so that includes first quarter being down roughly about $260 a ton?

Yes, it does. If you think about last year, if you look at caustic, we started the year at an index use of pricing of over $600, and we ended at $365. This year, we started at $370, and we expect it to go up over the years. So that's where the delta gets smaller for the whole year.

Your next question comes from the line of Anthony Taglieri with BMO Capital Markets.

Question on capital allocation. What would be your priority or pecking order in terms of buybacks, M&A if Arizona was unsuspended, that kind of thing? Like what would happen first? How much could a buyback look like this year, that kind of thing? If you could just give us more color on that.

Yes. So, I would say that this is obviously a discussion that we have with our Board all the time with that. So, we see the importance of growing earnings in the company. And so, our first priority would be, I'll say what we think are very attractive organic growth projects. We see those as offering the highest returns. And as we look at what we've done over the past 3 years, I think we've had a lot of success with that with high-return projects. We also see advantages in making strategic acquisitions for the business to address or to make our businesses stronger. So, we see that. But because of the multiple particularly where we're trading right now, we think organic growth has priority over M&A. But we're also, again, now and as we've announced our NCIB, looking at that as well. Typically, I think growing our earnings is more important than bringing back units, but we are looking at all of those options.

Yes. So, I think to answer another aspect to the question is we don't see it as mutually exclusive. We believe we can allocate the capital along all of these initiatives. We also, as we mentioned, we've got our convertible debentures coming due next year, which can be callable this year. So, we also have that in our mix of capital allocation. So, we think we can achieve all of these with the flexibility we have.

Your next question comes from the line of Gary Ho with Desjardins Capital Markets.

I think you mentioned in your prepared remarks the Water Solutions portfolio being a standout. Just wondering your outlook for the remainder of this year. I think in last quarter's call, you mentioned the higher raw material costs that could have a negative impact on the margins.

Gary, I think what we're seeing that is fairly minor and we feel very good about the performance in our water business. Across all of the product lines demand and pricing, we feel good. And we've added capacity, of course, in our PAC and ACH business. We've added a number of lines, and those are performing well and enabling the growth that we're seeing. And as we've just talked about, our Board approved yesterday a new project to build a new specialty product line at our Augusta Torta facility. So, we're seeing strong growth, strong performance in our water business, and we want to continue to grow that business.