Compagnie Générale des Établissements Michelin Société en commandite par actions (ML) Earnings Call Transcript & Summary

Ladies and gentlemen, welcome to the Michelin conference call. I now hand over to Mr. Yves Chapot, General Manager and Group CFO. Sir, please go ahead.

Thank you very much. Good evening, ladies and gentlemen. I'm very pleased to have the opportunity to present our 2024 Q3 sales performance and our updated guidance for the full year 2024. Before entering into the numbers, I would like to come back on the unprecedented succession of events and headwinds that we are facing since the end of 2023. First, exacerbated geopolitical tension with conflict in the Middle East heading to disruptions in maritime shipping; the increasing numbers of tariffs and export controls rules, which are triggering more and more complex supply chain to manage and sometimes is heavily perturbating this supply chains. We have as well the impact of an increasing number of regulation that is disturbing sometimes customer choices, such the EV regulation or the withdrawing of EV incentives in some regions. Furthermore, some of these regulations are far to be stabilized and are weighting down on our European manufacturing companies level playing field. I would just take 2 examples, EUDR, the European Union Deforestation Regulation, which was supposed to be enforced from 2025 January 1, and that is now under discussion for a potential delay of 1 year, less than 3 months before the due date of implementation. Another example is CSRD, which is the new nonfinancial reporting regulation here also that should start 1st of Jan in 2024, but the first reporting will be in the year of 2025. At the moment, I'm speaking, nearly half of the European countries have not translated this directive into their own regulation and which can create distortions between companies, depending on the country where they are headquartered. On the business side, we are seeing sluggish economic context, weak consumer demand in China, partly triggered by the lower mileage driven by consumers. Residential construction is depressed in large markets such Europe or China. And some mining investments are postponed due to the global demand stalling. On top of these elements, we are also seeing some post-COVID demand normalization, agricultural commodity prices decreasing, so impacting farmers' net income and leading to contraction in tractors and Michelin original equipment markets. New passenger car vehicle mix, which is softening, consumers are looking for more and more basic models, particularly in the U.S. market. And I was already mentioning value-driven by passenger car in China that has dropped as consumers tend to choose high-speed trend for long-distance trips. So in this context, the group is strengthening its value-driven strategy, reinforcing its 3P model. And for that purpose, we can rely on our 3 key assets the very -- the highly engaged and talented team, a powerful and widely recognized brand, our innovation leadership and our unique research and development and industrial capabilities able to bring innovation at scale, and the excellency in the market-defined product and services and the quality of our offers. Of course, we are looking, thanks to these 4 key assets to create value, of course, with tires, but as well around tires in services and experience through our connected solutions for fleets, our distribution and e-retail activities, either franchise or company owned and our lifestyle activities with a famous Michelin car for restaurants, that are now completed by the Michelin keys for hotels. And beyond tires, we are leveraging our material science, research and development and manufacturing capabilities to grow in polymer composite solutions, in ceilings, conveyor belts and hoses, engineering films and fabrics and engineered polymers in a very diversified range of applications. Now looking at the tire market. They were supported during the first 9 months by replacement sell-in and by an increase of Asian imports in Americas and EMEA, but penalized by very strong Original Equipment down cycles across every segments and a gradual destocking in mining. Q3 market has evolved within the range that we have shared with you at the end of July, with some very contrasted trends. In passenger car and light truck tires market, Q3 was at plus 1%. And year-to-date, we are plus 2%. Replacement market were during Q3 at plus 3%, with an increase in non-pool and a good start of the winter season, but with the surprising decrease of the Chinese replacement market when Original Equipment was down by 6%, Europe by 9%, North America by 5%; China, minus 3%, the weak local demand being compensated by an increase of vehicle exports in Asia outside China at minus 8%. In the truck and bus tires market, outside China, we are year-to-date at plus 2% with a replacement at plus 3% and original equipment at minus 6%. And this trend has been exacerbated during the Q3 with OE at minus 7%, with a very strong drop in Europe, minus 23%; North America, minus 14%, while it was partially compensated by increase of OE market in South America and replacement is at plus 3%. If we look over the year, it's mostly driven by an increase of imports and partly Asian imports in North America. For specialty, although some fundamentals are positive, but the demand is impacted partly for mining by the inventory drawdown. The beyond road markets are globally depressed with a very strong drop in original equipment for Agriculture & Infrastructure and Construction with a double-digit market drop during the quarter. On the other hand, 2-wheels markets have recovered. Aircraft post a slight increase after a very strong 2023, thanks to the rebound of Chinese domestic traffic. And in Polymer Composite Solutions, the demand is normalizing along the value chain after a very strong 2023, particularly in the conveyor belt market. So in this context, our sales during the third quarter have been hit by a deteriorating OE market across all the segments, partially offset by strong mix improvement. So our sales dropped by 4.2% at historical ForEx at 5.4% at the current ForEx during Q3. We have a slight scope effect, plus 0.2%. The volume decreased by 7.1% that we can share between original equipment, minus 19% across all the segments, when replacement is at minus 1.8% across the board. We post a very strong mix effect -- price/mix effect with price becoming positive at plus 0.6% during the quarter, thanks to the end of unfavorable impact of contractual clauses, which has weighed down on our mix -- price/mix during the first half and a very strong mix at plus 2.3% of which nearly 1/3 is due to a positive market mix between original equipment and replacement and 2/3 to the product mix. Non-tire activities were stable over the semester -- the trimester, the quarter, with Composite Polymer Solutions slightly declining, and the good trend in terms of services. Foreign exchange rate is still negative EUR 84 million or minus 1.2% during Q3. Year-to-date, our sales are down at minus 4.6%, of which 1.2% is coming from the currencies. Volume at minus 5.3% shared between OE, minus 10% and replacement, minus 3.9%. So you can see that over the year, although the original equipment sales are worsening, but the replacement sales are recovering quarter after quarter. Our price mix is at plus 1.7%, of which the mix is at plus 2%. So year-to-date prices are still negative due to the effect of contractual indexation closed during the first half. And we have a strong mix at plus 2%. And the non-tire activities are nearly stable at minus 0.2%. So when we break down this performance by business segment, we can say overall that our group sales have been penalized by the original equipment down cycles across the 3 segments and some contextual headwinds in specialties. Overall, our operating margin has been preserved. However, for SR1 year-to-date, we are at minus 2.4%, which volume is at minus 2.4%. Michelin replacement sales are flat overall at the end of September, with 18-inch and above tires growing at nearly double-digit basis year-to-date. Price was impacted by a contractual clause and particularly in the first half of the year and operating margin is slightly improving at the end of the quarter. For SR2, our year-to-date sales are at minus 4.6%, of which the volume at minus 5.5%, with a double-digit drop of original equipment volumes in Q3. And the consequence of our chosen focused strategy on replacement markets contributing to a sharp improvement of our segment operating market. SR3 posted a minus 9.1% sales figures year-to-date, minus 11.6% on the Q3, which is obviously weighting down on the segment margin. And I would like to zoom on our SR3 sales which are reflecting both in original equipment and cycle and some contextual headwinds in -- particularly in Beyond Road and mining. So overall, our year-to-date sales have dropped by nearly 9 points over the first 9 month of the year, of which 6 points is coming from beyond road activities and 3 points from mining. In Beyond Road, we can say that 4 points from the 6 can be attributed to the drop of the original equipment market, particularly in agriculture and infrastructure. The Construction Replacement sales are as well dropping by 1 point, so represent 1 point of the overall sales of the segment. And when some other miscellaneous segments are as well contributing negatively by 1 point. On the mining side, the overall drop is representing 3 points for the segment, 2 of these points are coming from tightening export control measures and 1 point coming from certain inventory reduction at some mines. Some key customers have reduced their inventory by 40% during the first 9 months of the year and the stop of mining operation in Central America. On the mining side, we consider that it's really contextual headwinds, given the fact that if we look at our core business, which mostly have mines operations in North America, South America and Asia Pacific, so Australia, Indonesia, China, our sales are growing by the equivalent of 1 point in these regions. So having shared with you the sales and the top line performance, I would like now to zoom on our 2024 guidance. So our guidance has been built on the following market assumptions. These market assumptions have not changed for passenger car and light truck and truck and bus tires. They have been softened by -- for our specialties. On PC/LT, we should land between plus and minus 2% with the OE demand pursuing its decline during Q4. And replacement should partially compensate probably with a better or partially with a better winter season in Europe based on what we are seeing until now. Truck and bus and tires outside China should land in the same range of plus 2%, minus 2%, with a massive reduction of OE volumes in North America and in Europe, partially compensated by a slight growth driven by underlying good transportation demand but as well by massive imports from Asia and North America in H1, which is normalizing gradually during the second half of the year. Regarding specialties, we have reduced our market expectations from a range, which was initially between 0 and minus 4% to something between minus 1% and minus 5%, mostly due to the continuation of what I shared with you for the first 9 months. There is no reason that the state of the year that there is a dramatic change in the evolution of this market for the last quarter. So taking into account this hypothesis, we expect our overall volume to land between minus 4% and minus 6% for the year. Our operating performance net of inflation should be positive. And we are betting on the fact that our CapEx cash-out assumptions will remain in the range of EUR 2.2 billion to EUR 2.4 billion, similar to the one that we shared during our Q2 communication. So based on these assumptions, we have -- it has lead us to fine-tune our guidance slightly downwards for our segment operating income, which would be around EUR 3.4 billion at historical foreign exchange rate. This is mostly due to the worse volume effect on original equipment and challenging operating margin in suffering. And on the other hand, we slightly upgrade our free cash flow guidance for the full year. It should land above EUR 1.7 billion. despite a lower EBITDA contribution, we have better managed our working capital inventory accounts receivable. Despite some inflationary effect in the value of inventory coming from natural rubber and butadiene, and as well from lower financial costs and interest paid versus 2023. So one indicator is improving, one is slightly degradating versus our previous guidance. So I'd just remind you that we have generally a strong seasonality in October, November with December, which is a lower month of the year volume-wise. So this guidance is, of course, central based on all the information available as of today. Having shared with you this information, I believe that we can now open the Q&A session.

[Operator Instructions] The first question is from Thomas Besson of Kepler Cheuvreux.

I have 3 questions, please. First, could you explain the decline in SR1 volumes in Q3 in a context that was relatively supportive for replacement demand for the industry, notably in Europe and North America? Second question, should we assume that Q3 price/mix was a peak for '24? Or do you see further room for improvement in Q4? And lastly, could you give us some indications about your current estimates of the impact of French exceptional taxes on your '24, '25 P&L and cash flow, please?

Okay. Thank you, Thomas, for this question. First, regarding the volume decline in Q3, that's true that the overall replacement market was supportive although partially nurtured by the growth of non-pool brands in North America and in Europe. In North America, just to keep in mind that tariffs have been reduced for some passenger car imports from Asia. I think at least from Thailand, and -- but the main, let's say, impact on the volume on Q3 was the volume -- the original equipment volumes. I shared with you 19% of our overall OE volume drop across all the SR, all the reporting segments. It is probably exacerbated in SR2 and partly in SR3 but it's, let's say, in the double-digit drop for SR1 as well. Regarding the Q3 price/mix, was it the peak and do we see further room for improvement? Let's say, at the -- it's always difficult to guess what will be the balance and particularly the balance between OE and RT, but assuming we'll have the same mix the effect in Q4 should not be too far from the one that we shared with you on Q3. The last question is, so when you say exceptional taxes, I suppose that you mean the tax law in France.

Yes.

So as you know, for the time being, we are working -- the information we have are only a project that has been shared with the Parliament. So based on the project that has been shared by the government, we are speaking on new dozens of million euro. But of course, the jury is still out, and we will have probably the final number at the end of December. It will depend on the amendments that can be add by the chamber during the budget discussion.

The next question is from José Asumendi of JPMorgan.

A couple of questions, please. If you could comment, please, on the impact of the cost savings on the restructuring measures you're taking, particularly in the plant shutdown in Germany impacting the second half of this year and next year. Second, with regards to the challenging volume environment, is this in a way accelerating your cost savings plans for 2025 to be able to maintain guidance next year. Three, I was wondering if you could comment also on the balance between price/mix, raw materials in the second half of the year. Directionally, how do you think about that second half price/mix rose?

Okay. Thank you, José. So regarding the cost measures and partly the restructuring measures, that we have taken at the end of 2023 and early 2024, partially for the second segment for the reporting segment #2, so truck and transportation. We have announced 4 factory or activity closure. Two of these factories have stopped their production in the very recent day, our truck and bus tire workshop in Poland as well as 1 of our 2 German factory. And the other ones, the other German factory and our Chinese operation should start production during the course of 2025. So it means that we will have a very marginal impact on terms of cost savings on the 2024 and the end of 2024, but most of the impact will be shown during -- in the 2025 and of course, first half of 2026. The second question was on price/mix versus raw material on H2. So we had raw material and overall inflators such energy, transportation, were positively -- were decreasing during the first half. They have started to increase in our cost of goods sold since the month of July. But simultaneously, we have seen the raw material clauses adjustment either stopping to deteriorate or for some of them starting to contribute positively. So there is always some time lag between this inflationary impact and the raw material and energy clauses price adjustments. But overall, for the full year, we should be positive. We have been very positive, of course, in H1. We will be probably slightly around 0 or negative in H2 but -- and it will gradually improve over the months.

The next question is from Harry Martin of Bernstein.

Yes, the first question I had is just a clarification on the RS3, the comments and the mining business about the onerous export control obligations. Could you give a little bit more color here? Is that related to China and the export measures that they've been putting in? Has -- was that having an impact in the first half as well on the volume decline? I know it's only just been sort of pulled out specifically in your slides but any sort of additional color you have on the visibility of the time line that, that can start recovery? And then the second question, despite the full year guide coming down on EBIT, you've taken up the free cash flow guidance, the leverage on the balance sheet will be even lower, well below 1x at the end of the year. So I mean, what is the latest expectation on further cash returns beyond what you've got in place at the moment?

Okay. So regarding export control measures, it has nothing to do with China. It's simply the fact that following the conflict in Eastern Europe, there is some increasing measures that are taken by North America and the European countries that is leading us not only to stop to export in some countries but to make sure that our distributors or our customers in other countries, in third-party countries are not reporting towards these markets. So I'm not going to comment on a topic that can be politically sensitive, but that's just the fact that we are enforcing the -- our entire supply chain to make sure that there is no indirect export in market that are under sanctioned by the North American or European authorities. Regarding cash return. So just for your information, we have already completed our -- the half of our share buyback program by the day I'm speaking with you, like today. So we have already buy back around EUR 500 million of our shares during the first 9 months or 10 months. And at this moment, there is no reason to modify the 3-year program that we have shared with you at the beginning of the year.

Understood.

And the consequence of the share buyback that we have implemented, knowing that simultaneously, we have opened a program to facilitate the acquisition of shares by our employees will lead us to reduce our number of shares by around 1.2% at the end of the year.

The next question is from Monica Bosio of Intesa Sanpaolo.

My first question was on the price/mix that you already answered. My second one is on the inventory in mining. Do you expect an inventory rebuild in mining maybe already in the first part of 2025? And if I may, I know that it could be too early to ask, but do you see 3Q beyond Road Volumes bottoming up and maybe should we expect a more normalized trend from now on? And my second question is a confirmation on the previous call. Do you still confirm for SR2 margins between 9% and 10% by year-end?

Yes. So I will start by your last question. Yes, we should have an SR2 margin in the range of 9% by the end of the year or even slightly above that. So that's -- we confirm that the SR2 margin has improved and continue to improve over the year. Regarding inventory in mining, we do not necessarily expect restocking which will not been necessary for mine operations. But we rather expect a better alignment between extraction from the mines, tires utilized and tires purchased by the mines. On top of that, we should not have any more the negative impact of the export control measures that we took during 2024. So it should lead to a positive orientation of our mining volume next year. And regarding Beyond Road, yes, I wanted to answer to this -- to your second question, we believe that the original equipment, we know it's -- in Beyond Road, there is a lot of markets where original equipment markets are representing nearly 50% of the overall market. It's a case for agriculture. It's a case for some construction equipment as well. It depends on the usage intensities of these vehicles. We believe that OE should remain shy at least during the first half. It will, of course, depend particularly for agriculture of the commodity future commodity prices and farmer net income. But we believe that overall, the first half of 2025 will probably be very tough. And we might -- but it will also depend on what is going to happen on the political side. We might see some rebound either in agriculture, either in construction during the second half of 2025. At one moment, we can expect that residential construction, well, there is the bubble burst in China on one side and also some depressed market in Europe due to increasing interest rates. And with the Central Bank interest rate policy easing down, at one moment, it will have an impact on this, let's say, investment-driven businesses.

The next question is from George Galliers of Goldman Sachs.

The first question I had was just a sort of clarification on the mix. I believe at an industry level, 75% to 80% of RS1 tires replacement. Can you just remind us for Michelin, what is the ratio of replacement to OE tires today in order to help us better understand the volume impact that you're seeing from the lower OE production? The second question I had was with respect to the market share development in RS1. In the deck, you mentioned stable market share for 18-inch plus tires. Can you just describe what is happening to your overall market share in RS1 year-to-date? And then finally, if we look at the last 10 years, in general, your second half earnings have typically been stronger than the first half. But for this year, your new guide suggests a fairly large sequential decline. You mentioned the potential pickup in residential construction towards the back end of next year. But what confidence can you give us that earnings won't continue to deteriorate in 2025, given the numerous industry headwinds that you've cited during your presentation?

So first on the mix between original and -- real equipment and replacement, we don't give a detailed figure by segments It's, let's say, volume-wise, it's in favor of replacement for SR1 and SR2. It's much more balanced for SR3 for Beyond Road growth activities. And the mining business is mostly a replacement businesses. Our market share in SR1 has stabilized. And overall, if I look since 2017 has increased in 18-inch and above tires, so in premium segments. Overall, our overall market share has been decreasing, particularly because of the commoditization of the 17-inch and below market in Europe, in Asia and China, the North American market as well has seen some tier down over the years. So balance between H1 and H2, it's very -- if prices are stable and if the overall let's say, market trends are stable, that's true that we are generally over-indexed on H2 than H1. It's due to the very strong seasonality between, let's say, September and November, particularly in Northern Hemisphere markets where there is a winter season. Nevertheless, if we look at this year, in H1, we benefit from deflation in raw materials, energy and some, let's say, entry costs that were going down, while at the same time, we were able to hold on our prices. And of course, we have seen some impact of the raw material and energy indexation clauses, but with some lag. We can expect 2025, it's always difficult 1 year ahead to guess what is going to happen in the second half of next year, but we can expect next year that we'll go back to, let's say, a more traditional pattern with a weaker H1 than H2 in terms of both sales and operating margin contribution.

The next question is from Michael Jacks of Bank of America.

I'd like to come back on the SR3 volumes that are subject to these export controls. A couple of questions on that, please. Firstly, are you comfortable that you have now managed to identify and curtail all third-party sales that have found their way into these markets? Secondly, does the 2 points of tonnage decline reflect the full impact of this now? Should we consider these volumes or this impact to be permanent? And can you share any color on the relative sort of revenue and profit value of these sales, if they're any different from the rest of the segment?

So there is no difference on the profit value of these sales versus the rest of the segments. We consider that we have took during the first half, the decision and very early during the year for some of these markets, the decision that we needed to take. Will it have a permanent impact? Of course, we are not looking on -- in 2025 to have -- to come back to these markets because some of these markets are definitively on the sanctions. And we are committed to make sure that there is no indirect sales in this market. But there will be no more negative effect knowing that on the other hand, if we look at the rest of our mining business, outside these events, it was growing in 2024.