Kemira Oyj (KEMIRA) Earnings Call Transcript & Summary

Good morning, everyone. A warm welcome to Kemira's Q2 2023 Results Webcast. You know me, I'm Mikko Pohjala from Kemira's IR, and I'm here today with our newly appointed Interim President and CEO, Petri Castren. As you surely have seen, first thing we announced today that our President and CEO, Jari Rosendal, will leave his position in 2024 at the latest and after that, we announced that Petri Castren has been appointed as Interim President and CEO alongside his duties as CFO. And in addition to that, we have of course published the Q2 results for January-June with robust financial performance and as is the sort of our tradition, we'll go through the Q2 results. In the presentation, Petri will also touch upon the management changes. And after that, there will be plenty of time for your questions on either topics so either on the management changes or the Q2 results. And as is the case typically, you can present your questions via the teleconference or then via the webcast tool. And with this, we are ready to start. Petri, please.

All right. Very good. Thank you, Mikko, and good morning, everyone. So as Mikko started and already we announced last week that Jari is on sick leave. So this time I will present a good Q2 and half year results on my own so bear with me. First of all, I'd like to comment on Jari's sick leave. We are respecting his privacy and we will not speculate about his illness or regarding the duration of his sick leave. We respect his privacy. So we want to wish Jari all the best and full and complete recovery. That is the most important thing for him right now. Besides the 2 announcements -- besides the results announcement or the 2 announcements that were made earlier today. First announcement was about the CEO succession plan announcement. And Board actually advised even me and the rest of the management team about this yesterday and this succession planning has been going on for some time already. And so as a result of this planning, and soon Jari would have been 10 years in the company, there was a plan and this plan has been worked together between Jari and the Board about a succession. So it is important to note that this succession plan announcement has nothing to do with Jari's sick leave announcement and sick leave. So it's just an unfortunate timing of those 2 things. Separate announcement was then made about Jari's backfill while he is on sick leave and the Board asked me yesterday whether I would be willing to take the role temporarily until Jari comes back or until his successor is nominated and his successor is in place. So that was the second announcement. And as Mikko said, I will retain my CFO role as well and actually also my intention is that I will return to my CFO role once this temporary phase is over. But let's move on to the Q2 results. I think the title says a lot. So weak pulp and paper market, but it was more than compensated by the strong profit improvement and profit performance in I&W. In light of that weak pulp and paper market, we think that our performance was really robust. Slight organic growth with strong EBITDA margin of 18%. Pulp and paper market weakened clearly during Q2 and particularly in Europe or EMEA region for us, which is our stronghold, and I'll come back to that a little bit. Oil & Gas strategic review continues and there's no update on that. We'll update and give further information when that's available. One of the other achievements for the quarter, EcoVadis sustainability rating platform recognized our efforts and activities on that one and we retained our Platinum rating from EcoVadis now third year in running. So I think that's a good recognition for us. And as you have seen, we have kept our outlook unchanged. There are some changes in the assumptions particularly addressing the weaker pulp and paper market. If we look at the numbers a bit more deeply, you see that the revenues decreased by 2%, that's the reported revenue. However, the organic growth eked out a small increase 0.5% when adjusted for FX and also there's a slight impact from our colorants divestment, which we concluded during the quarter. Year-on-year sales prices increased and that increase impact was offsetting the decline in volumes, which were sort of pronounced in Pulp & Paper segment. Our Oil & Gas business continues to improve, volume growth driving profit improvement. Maybe final comment on this slide, our cash flow has been very good and on the back of strong profitability for the first half of the year and also some unwinding of net working capital. So looking at the segments now and starting with Pulp & Paper. The first comment is that the inventory, and now I'm not talking about not our inventory or even our customers' inventory, but the whole value chain down from us to the consumer. There is more inventory destocking than we saw and most of the industry saw even some 3 months ago and now this inventory destocking will take longer to unwind and in Q2, this is visible in our volumes in a more meaningful way than what we anticipated during the quarter. Regarding pricing, there we have to recognize that it's a totally different story whether one compares year-on-year pricing or whether one compares a consecutive pricing and actually this time we have offered some more commentary even in our report about consecutive pricing because I think that helps reader to sort of understand what is going on in the marketplace, but I'll try to do some of that here now. So while I said year-on-year prices improved, for consecutive periods there was significant decline in prices, particularly in bleaching chemicals. Obviously these are energy intensive chemicals and as energy prices have come down significantly from levels in Q1 and also are formula-priced products so that pricing is visible. Similarly is true for caustic, which is market-priced product, and those caustic prices have come down from Q1 level coming back to more normalized level. So operative EBITDA declined to 15.5% in Q2 from the exceptionally high level of 21.7% in Q1. And I'll offer one more detail, which you may appreciate, about the sequential decline. The sequential decline in absolute terms is EUR 44 million. Most of that can be associated to sodium chlorate in Europe and caustic, both the combined effect of the pricing decline as well as the volume decline in this space. Moving on to the Industry & Water side. If the market was weak in Pulp & Paper, then there's quite a bit different story in Industry & Water. So in municipal side, market is quite robust, market is stable. This is sort of consistent with our expectations. So the biggest part of our water treatment business goes to municipal wastewater treatment. That is quite recession proof and noncyclical in terms of volumes and here again the volumes have held up quite steady regardless of the external environment. There is some softness in industrial demand. This is particularly driven by our smallish exposure to mining industry. So that's the biggest driver for the decline in industrial water treatment volumes. On the other hand, Oil & Gas volumes are increasing nicely. They're increasing both sequentially. That's driven also by the seasonality of our Oil & Gas business so we started the tailings treatment season, but there's also a good growth year-on-year. And there we are sort of -- our polymer business particularly going into the North American shale is continuing to grow and we are sort of having higher capacity utilization rates in our polymer plants. So obviously that is driving improvement in Oil & Gas. Operating EBITDA record high of EUR 85.8 million. So sort of another anecdote that this is the first time when I&W absolute EBITDA has actually exceeded one of Pulp & Paper. So friendly rivalry between the segments and I think this anecdote is sort of positive for that continued friendly rivalry between the segments. Maybe one more comment on Oil & Gas. You may remember that I have mentioned that we expect more than EUR 20 million profit improvement for Oil & Gas in '23 versus '22 so year-on-year improvement and I'm happy to say that we are on track, slightly even ahead of that track to achieve that. So in that sense, continued improvement in our Oil & Gas business. A bit more about the EcoVadis recognition. So we do strive to be a global leader in sustainable chemical solutions in water intensive industries and we believe the sustainability transformation will drive profitable growth. So in that respect, I think it's even more important that external platform like that recognizes our own efforts in the sustainability area. And it's also good to note that one does not stay on the sort of particular level, in this case Platinum level, by standing pat or standing still. There needs to be a continued improvement and this continued improvement was even recognized in the improved scoring and it's attributable to many areas where we are improving covering areas like procurement to environment, labor, human rights and our ethics. So good achievement there. Regarding our strategy and regarding our strategic priorities. So today's announcements have no bearing on our strategy, have no bearing on the strategic priorities. So we'll continue to focus on finding growth from existing business as well as focusing on our strategy on biobased renewable chemistries. This will all continue. The Oil & Gas review will continue. Regarding operative priorities. Those will remain largely unchanged as well. So obviously those operative priorities are derived from the strategic priorities. Maybe one comment, which we will say that we will do some actions to mitigate actions or we'll find mitigating actions for the weaker pulp and paper market. So we strive and we are proud that we have an agile organization that can react to different environmental input, if you will. We were quick to react to COVID, we were quick to react to rising input costs and we performed really well through these times. So now we are sort of being tested again somewhat and how we will react to the changing environment in the Pulp & Paper segment. So that maybe is the 1 change on the focus areas for the second half of the year. Moving on to the sort of financial side, I'll give you a bit more detail on some of the topics that I have already raised. So now I'm putting my CFO hat on. So first of all, revenue bridge. So organic revenue eked out a small gain of 0.5%. Volumes came down 7% and again, like I said earlier, resulting from the declining market demand in Pulp & Paper. And I think it's important to note that this we associated all to the market. We don't see any reduction, any loss of market share in this business, but it's really driven by market. Volumes increased in Industry & Water again as the growth in Oil & Gas was more than offsetting for the small decline or the decline in industrial water treatment volumes. Sales price improved year-on-year, declined sequentially and again the sequential decline was mostly due to the normalizing caustic prices and the decline in prices in other energy intensity bleaching chemistries and again covered sort of earlier. But I think at the same time when we talk about the significant changes in the energy intensity products and the caustic, it's good to see that our sort of business model is able to and our organization is able to hold on to many of the pricing gains in other product areas. So that is supporting our profitability during this period of time. Some comments about fixed costs. Fixed costs are up more than 10% and this is driven by some good what I call acceptable reasons for fixed cost increases. We actually have some higher incentive accruals on the back of a very strong profit during the first half of the year. Travel costs have normalized since last year, particularly the first half was still COVID impacted, so travel cost is increasing. And then there is an area which we haven't talked about much, but we have some extra costs from our SAP upgrade so we transferred to SAP S/4HANA. And this is actually a topic that we are happy and not only happy, but very satisfied and proud that we actually achieved go-live status with our SAP project during this Q2, actually during May already and we have already 2 monthly closings behind us. So this was a process of more than 3 years. It started more than 3 years ago with planning and some 1.5 years of intensive work in making this happen. And as surely you know that this type of ERP upgrades, companies do every 10, 15 years. So it's a massive undertaking and obviously generated some extra costs. But now we are there and this new platform will sort of allow us to sort of continue to build on our global processes, global tools and will certainly offer opportunities for us to sort of use the newest technology and the cloud-based technologies and what all that will bring on to us. But also recognizing that the salary inflation is running higher now compared to recent years and again I mentioned the mitigating actions that we need to do. So there are some actions that we will need to take to address the increasing cost base. All right. Moving on to this variable cost impact page that we always talk about and here again I sort of emphasize that these curves that you see, the massive up and down changes that you see on the recent quarters and during the last year, these are amplified by the impact of the energy intensive chemistries, caustic as well as the bleaching chemical chemistries. So first moved up hugely and now decreasing rapidly and by similar amounts. So it's good to understand that otherwise the movements in pricing are much more modest. Almost there's a sort of a health warning in how you interpret that. Because of the magnitude or amplification effect of these 2 product lines, you should be careful on what you conclude regarding other products and remembering that chlorates and bleaching chemicals are still less than 1/3 of our revenues. So they are not the whole business that we do so let's put that in perspective. But still, as you see, we increased prices year-on-year by EUR 66 million and again sequentially they started to decline. Moving on to our balance sheet. So balance sheet continues to strengthen as good profitability generated cash and we reduced net working capital, which is sort of typical when the volumes are coming down. So it reflects -- the inventory values coming down reflects both the reduced levels of inventory that are needed as well as the unit costs coming down for inventories. Net leverage 1x trailing 12-month operating EBITDA. So I think this is clearly the lowest that it has been for Kemira. One comment about electricity assets. As Olkiluoto 3 started its commercial operations during Q3, we changed the valuation method, how we value that asset from cost basis to discounted cash flow basis, which is the valuation methodology that we use on other sort of commercially producing electricity assets that we have. And this change resulted in an increase of roughly EUR 50 million in the value of our ownership in Olkiluoto 3. But that increase was largely offset as we reduced the value of the other electricity producing assets at the same time and this reduction again reflects the changes in the marketplace. So we base the 5-year outlook on electricity based on forwards so you follow that the electricity forwards for the next 5 years have come down during the quarter and also some of the longer-term electricity cost and our price assumptions have come down. So this value reduction is a reflection of that. Cash flow, again highlighted that the good profitability and net working capital unwinding resulted in excellent cash flow year-to-date and also strongest ever for quarter 2 so strongest ever quarter 2. And here I like to sort of bring up the seasonality aspect that we have. Typically, our cash flow is very much weighted towards the second half of the year. Because of sort of what's been going on in the marketplace right now, this year that seasonality will probably not repeat itself in the same way as it has done in the previous years. Finally, I'll come back to the outlook. And so despite that we have adjusted some of the assumptions for pulp and paper market for the rest of the year, we have kept our outlook unchanged. So the revenues for the full year are expected to be between EUR 3.2 billion and EUR 3.7 billion and operative EBITDA of between EUR 550 million and EUR 650 million. So with that, I've gone through my prepared remarks and slides. So we're ready to move on to the Q&A session.

Many thanks, Petri. And as mentioned, you can present your question from the teleconference line or then submit your question from the webcast tool. And before we go to the teleconference line, there's 1 question already from the webcast tool and I'll present that to you, Petri. So this from [indiscernible]. So in terms of pricing and pricing power, how would you describe the stickiness of your customers and contracts in Pulp & Paper currently and have you received requests on new price negotiations in the segment?

Well, I sort of alluded to that fact already that we have not lost customers, we've not lost market share. We just held an internal presentation and heard commentary from our segment head who was saying that we haven't lost any 1 single customer in that respect. So I think that sort of shows the stickiness of it that the customer retention rate is very high for us and I would say typically in the pulp and paper industry. The price decline that is most prominent is obviously where we have formula-based pricing. So that comes with the formula. The price increases came with a formula so the price decreases will come with a formula as well. Some places where we have moved to more frequent price adjustments or agreed to, for example, quarterly pricing negotiations or pricing updates; yes, there we are facing these requests. And to be honest with you, I wouldn't be surprised that as the industry -- our customers are having some of their own difficulties that we will be having these discussions about pricing as well. But I think it's sort of a -- this is business as usual. So first of all, it's nothing dramatic. It happens and we'll need to deal with it. At the same time if we are seeing some pressure on prices coming down because I think now the direction of pricing is clearly coming down rather than going up, particularly those ones that are frequently negotiated, we are getting some of the benefit from the reducing variable costs. So it is sort of appropriate that we share that; we share the pain going up, we share the pain -- we share that also going down. So the answer is yes, but I wouldn't turn it to any dramatic situation.

And maybe as a reminder so as a whole in the Pulp & Paper segment so better refer to the formula-based contracts so roughly 1/3 of the contracts in Pulp & Paper are formula based and the other ones are typically fixed. And with this, we go to the teleconference. And we can take question from the webcast tool again a bit later, but we start with the teleconference.

[Operator Instructions] The next question comes from Anssi Raussi from SEB.

So a couple of questions and the first one is a bit like clarifying one. So volumes declined by 7%, but could you split or give us like a divisional split how much was the decline in Pulp & Paper just to get our models right?

To be honest with you, Anssi, I don't remember exact percentages. But as we said, volumes increased in I&W driven by Oil & Gas volume growth. So the volume decline in Pulp & Paper is more significant. Actually now I remember, yes, it is in the double-digit range and actually it's sort of 14% or something like that is the volume decline in Pulp & Paper year-on-year. And I'll give you even more detail on that one. So about half of that was during the last quarter.

Okay. And the next one about the division specific trends going into Q3 so especially pricing and cost. So if we talk about like Q-on-Q terms here like caustic soda, it has been normalizing or it has normalized during Q2. So what kind of pricing and cost trends we could expect in Q3?

Well, I think Q3 on caustic, we'll see much smaller changes than in the previous quarters. There may be still a small change downwards in caustic prices, but we're talking about significantly smaller changes than in this past quarter or the previous quarters. And then of course what was sort of impactful or why the caustic impact Q-on-Q or Q2 over Q1 was so meaningful was that the caustic volumes also came down quite a bit during Q2. So the caustic profitability will be driven of course by the combination of these 2.

And what about Industry & Water division like do you have pricing negotiations ongoing there or...

Well, Industry & Water like I'll remind you of sort of how the business knowledge. So most of that business is municipal water treatment, 2/3 of that is municipal water treatment and that's almost exclusively annual contracts, sometimes even biannual contracts, but most typical contract is an annual contract and those are fixed price contracts. So these are the contracts that when variable costs are going up, they are sort of a drag on our profitability and now when variable costs are coming down so this is now protecting our profitability. So here I think we have much more visibility on volumes, which are resilient in particular in the municipal water treatment, but also on our pricing. And there also it's sort of good to understand that we are negotiating against year-ago situation. So the year-on-year movement when we go into these price negotiations are not nearly as dramatic as the sort of what would happen if it was a quarter-on-quarter or consecutive quarter situation that you negotiated from. So we have a pretty good outlook and pretty good comfort level that we will be holding on to the pricing levels for this year.

The next question comes from Isha Sharma from Stifel Europe.

The first one is on Paper & Pulp. Could you please comment on the destocking? How much do you estimate this to be underlying weakness because the products are obviously a bit bulky and the destocking is going to -- is lasting much longer than you anticipated? My second question is on water treatment. You are benefiting of course from the price cost spread due to the longer contract. Have you already seen the best of it because if we look at your margin development, it's quite solid? And should we expect then margin to somewhat normalize in the coming quarters? Thank you for your helpful comments on the EUR 20 million improvement year-over-year in '23. Is it equally weighted through the year or are we going to see more to come in the second half versus the first half?

And Isha, I'll specify so that EUR 20 million you were referring to Oil & Gas improvement.

Correct.

So I'll start with the destocking. So in a way somewhat of a challenge is regarding this destocking and it's the destocking in the whole value chain. So we don't have excess inventories, we don't -- our products, our chemistries are consumables that our customers consume in their production. And mostly our customers, they don't have big inventories; inventories of whether it's paper products, board products or pulp products. But down the chain whether you're talking about importers or possible distributors and particularly during the COVID years, these various importers and distributors had to build up stocks because the supply chains were less reliable than what they are today. So that caused down the value chain inventory destocking for which we don't have a good visibility and I would sort of venture to say that even our customers don't have a really good visibility of what is down the chain. And that's the destocking that I'm talking about not necessarily what our customers need to do, but what our customers' customers and their customers need to do. So that is there. And maybe sort of turning it to the sort of forward-looking commentary. So this topic was identified and I think 6 months ago this issue was seen, but not to the magnitude and it was sort of the expectation that by second half of this year, it would turn better. Now I think that the common view is that Q3 there are little signs of improvement in that destocking. That destocking activity will need to go through Q3. Q4 visibility is not so good, but there's no strong -- at least no strong signals yet that this volume would start to improve significantly in Q4, but we're rather looking at 24% as a volume growth area. Hopefully, the economies will pick up sooner. We obviously have seen weakish numbers from China recently and concerns about macro environment still in North America, particularly in Europe. So the macro economy hopefully does not get worse, but will rather turn better and help us in the destocking process. Water treatment margins, I think it was the next question. Have we peaked? We don't give that type of quarterly views on it. But certainly the peaks and valleys are not as sharp as they are in some of the like the caustic or the electricity intensity bleaching chemicals. So I don't see any big changes there perhaps not improving anymore, but are they coming down fast in coming quarters? I don't expect a significant slowness in that in the coming quarters. In Oil & Gas, the EUR 20 million year-on-year profit improvement. Like I said, we're well on track and well on track to me means that you chronologically achieved at half year more than half of the goal so there's still about half of the goal to come, maybe that's enough.

Hope that clarifies, Isha?

The next question comes from Robin Santavirta from Carnegie.

Now in terms of this Pulp & Paper segment and the volume weakness, it seems that you expect the volume weakness to continue in H2 and then as I understand mainly from continued destocking, I understand the visibility for the latter part of the year is a bit weaker. But also there are some new projects, actually a number of new mills coming online both when it comes to paperboard and especially when it comes to pulp and some of those we know are your customers. Isn't this going to offset some of the weakness that we see from destocking? What is your view on that?

Well, I think one very concrete example where we will see or we have started to see some positive offsetting impact is the UPM's expansion in Uruguay. UPM obviously is in the ramp-up phase. I don't want to comment an awful lot on how that ramp-up is going, but obviously this is a ramp-up phase and while it's ramping up, it takes time for volumes to pick up. So once -- as the volumes are picking up, yes, that will increase the volume demand in South America, but that's not offsetting clearly EMEA and I mentioned EMEA pulp and paper as being soft from volume point of view. That is the much bigger market for us and the impact sort of in absolute numbers is more significant. So South America growth will or one pulp mill growth in South America will not sort of offset the current low demand in Pulp & Paper EMEA.

I understand. In terms of the margin for that segment, you did 14% and 16% EBIT margin now in the past Q4 last year, Q1 this year; now you're down to 9%. But if I look at prepandemic times, EBIT margin has been around 6% to 7%. So you're still clearly ahead of the margin you reported at that time. Should we expect the margin sort of to gradually reach the same levels as prepandemic or is this essentially say 9% EBIT margin or the EBITDA margin of 15%, 16% a normalized level?