KGHM Polska Miedz S.A. (KGH) Earnings Call Transcript & Summary

Ladies and gentlemen, I would like to give you a warm welcome at the conference on the financial results of both the group and the company for the first half of 2021. We meet together mainly through video broadcast. But I would also like to welcome all those that came in person to the Warsaw Stock Exchange. We'll start traditionally with Management Board's comments on the results for the first half of the year. And then we will move on to the Q&A session. Now we will answer questions asked both here in the room and the ones that you send via chat ir@kghm.com. If there any questions that we won't be able to answer today or questions that will require more detailed answers, we will answer them in a more detailed manner on our website, and you will be able to find all the answers there. The result of KGHM in the first half of the year will be presented by the Management Board in its almost full composition: Marcin Chludzinski, President of the Management Board; Adam Bugajczuk, Vice President for Development; Pawel Gruza, Vice President for Foreign Assets; and Andrzej Kensbok, Vice President for Financial Matters. We do not have here Dariusz Swiderski, but we will also address production matters and the ones related to our national domestic operations. Ladies and gentlemen, I would like to give the floor to President, Marcin Chludzinski.

Ladies and gentlemen, I would like to welcome you on still summertime afternoon. We have all worked. We're already past 12. We have a few pieces of good news about the operations of the company in the first half of 2021. I think that the figures of today's meeting are 132 and 433, why these numbers 100% higher year-on-year, adjusted EBITDA, 30% higher revenue, 433% higher net profit. If we make reference to the first half of 2020. As what we experienced in macroeconomic space, and the recurring comment is that copper prices were favorable to us, I cannot deny that. For the first time in quite a while, actually, this is the first year when we tailwind rather than have to struggle against the wind. The prices in the first half of the year were very difficult. Even the prices [ BL ] 5,000 per tonne in 2018 and 2019 were not very favorable to us either. But copper prices is not only or not the main reason why we can share those good numbers with year-to-date. We implemented a number of optimization initiatives, and we can see the results. In the context of Sierra Gorda comes another good number, and I think that's very relevant here. This is the first year where money is flowing, not from Poland to Chile, but from Chile to Poland. So we are facing the situation where about PLN 500 million came back from Sierra Gorda to Poland. And that's not the end of it. The next amount are planned for this year, so we will not end with this number. If good production parameters continue, if good financial parameters continue, that should become a reality. Of course, things happened much later than we had planned it would when we started this investment, but 3 years of very intense work of the management board and the people who are responsible for Sierra Gorda, both Polish people and Chileans there and in the headquarters of the company brought fruit. In spite of lower prices, we were able to show you much better financial results improvement and EBITDA improvement on production volumes and the battle for this project in terms of cost, in terms of the full utilization of production capacity, all that is bringing results. The price does support us. But even without the favorable price, we could see a positive impact on our financial results. Maybe that would sound like an anecdote, but there are quite a few examples. Like there were several dozens cars, more vehicles that carry output to the mill and give us specific measurable results, because that, at the end of day, means more copper. That was just one of the many optimization initiatives. And again, this is not the end of our initiatives in this regard. Most importantly, this is happening without any new, major new capital expenditures. We basically only optimize what we had previously, and we try to create value based on what we have already invested. We're trying to increase the value of our assets to improve the financial results. By the way, we are trying to do exactly the same thing in Poland in terms of cost, in terms of maintenance of our production. We all know perfectly well that grade is not favorable. As time goes on, the content of copper is decreasing. And Sierra operates in a -- in cycles. Occasionally, we encounter greater content. And in mining industry worldwide, that's -- one of the deposits with lower content in the ore, so that's not a project that brings those results on its own. We have to combat to get them. So we are happy we are getting those results. We're also happy for the first time in a long time, macroeconomic conditions support us. They are uncertain, and we also have to admit openly that there is an ongoing battle in the market in terms of price. Sometimes, we can see a decline in prices and then there are intense efforts to push it up. This is something we are monitoring closely. We are prepared for a number of various options. Also, as past year showed, we are ready for crisis scenarios and in spite of those crisis conditions today, we are able to show good financial results. As regards specific financials, these will be presented by individual members of the Management Board. Now I would like to give the floor to Andrzej Kensbok, who will tell us about production figures, but also financial data.

Good afternoon, ladies and gentlemen. I would also like to give a warm welcome to everyone present here via our broadcast. Ladies and gentlemen, as regard production results, metals show an increase, paid copper 8.6% up 6 months-to-6 months. We can say that this growth is recorded in all segments in Poland. KGHM International, that is mainly Robinson and Sierra Gorda. As regards the production of our 2 other products, that is silver, it is slightly lower than last year, and that results from the fact that we -- particularly in Poland, we process more foreign concentrates with a slightly different type from the one that we processed last year. Therefore, with a higher content of copper, but not necessarily with higher content of silver. The availability of silver and third-party concentrate is slightly lower. As regards North American mines, we getting through areas that contain slightly less precious metals CPMs. We should also say a few words about the results of Polska Miedz S.A. as the main holding company in the group. Here I would like to bring your attention to maintenance of the level of mining output. This is important because we know that the mining conditions are deteriorating. We operate in an increasingly difficult geological conditions, getting deeper and deeper on a more extensive area of the mine, but the output level was maintained and even slightly exceeded from the first half of 2020. So the initiatives that were linked to making the deposit available, extraction or the functioning of the entire mining complex, transportation, processing and so on and so forth, all that function smoothly, and we are able to cope with the situation. Production of electrolytic copper increased. And that increase stemmed from greater processing third-party input, scrap and third-party input. We are also expanding the range of third-party input, trying to adjust the capacity of our smelters to greater opportunities, of choosing and optimizing the purchases of third-party input. On the other hand, our smelters also adjust their technology to be able to process those increased quantities. We are preparing for that by building storage centers, warehousing centers and all the supporting logistics to transport third-input. That is becoming a significant element of our production, but it helps us because it gives us an opportunity to fully utilize the capacity for smelting and for refination in our smelters to push up our volumes. Decrease in the electrolytic copper production from our own input results only from a year-on-year comparison. In the middle of last year, we were still processing the remains of the surplus that we had accumulated before. And at the beginning of 2020, we still process that previous surplus, hence and we had slightly higher processing of our own input. Now we are running on an ongoing basis, that is whatever is extracted is then subsequently processed. As for production results in Sierra Gorda, I will give the floor to my colleague.

Thank you, Andrzej. Ladies and gentlemen, the results on our foreign assets, in particular, Sierra Gorda and Robinson are very good. You can see here those numbers that we are very proud of. This is the effect of both good management of the mine and of processing plants in Sierra Gorda. But also, it results from our good relations with trade unions. We managed to sign the agreement at the very early stage, and that allowed us to work in calm conditions in spite of the turbulent moment that Chile is going through right now, Chile and the mining companies operating under their jurisdiction. I would also like to mention the financial results and add a few words to what the President said regarding repatriation of cash from Chile to Poland. Last year, we managed to maintain financial supplies from Poland. And this year, thanks to good production, thanks to the fact that the first time we are being supported, when the term of Service Management Board, we are being supported by the macroeconomic situation. We can see the possibility of reversing this financial vector which now points back towards Poland. We are very happy about that. Thanks to cost savings, which we were able to implement, the price went down to very low level, below 5,000 per tonne. We were able, in Sierra Gorda and our foreign assets, to implement those savings. And thanks to our discipline, other savings continue also this year. as result, this year, we generated a financial surplus, which is then brought back to Poland. With regard to KGHM International, we can boast excellent production results of Robinson, which is also working on the extension of its LOM plan of -- planned life of the mine and that generates the value of assets on our books. Thank you.

So speaking of our financial performance. Let me start with the revenue. The revenue of the capital group were up 32% on a year-to-year basis. And it is important to say that we have seen that growth across all the segments of our business. The main driving factor was the price increase for all the metals that we sell. The exchange rate of zloty against U.S. dollar was working against us. Zloty depreciated against the U.S. dollar but has a negative impact on our financial performance, so we have actually experienced some adverse effect of exchange rate. The volume was down by PLN 388 million, and this is due to the logistics of sales. So first, we have to accumulate goods before we sell different batches. That happens in the U.S. and in Poland for silver. So this is a temporary arrangement. We simply have to stock up -- we had to stock up some products before the 30th of June when we were closing the books for the quarter. So negative result on our derivatives is that -- is the outcome of our hedging transactions. We adjusted the hedgings during the first 6 months of the year as much as we could on the market, but our historical hedging transactions, but we're defending our position during the all-time lows for the copper continue to affect us. But this negative effect is generously offset by the revenue increase and also another factor, but I'm going to address the second. Now let me turn to the costs. C1 unit cost, which is the cash cost of production of payable copper, we can tell that it went up from $1.6 to $1.89 per pound, but there's a number of factors that contributed to that. First of all, C1 cost was actually going down in Poland, so unit cost in Poland -- Polish production was going down. At Sierra Gorda, we also had C1 unit cost falling. In Poland, the main thing is the increase of price of silver. In Sierra Gorda, the main driving force was the increase in the production volume. However, the negative effect is the increased mat tax, so-called copper tax. It is included in C1 cost, and it is calculated based on the price of the copper and the volume that was produced. Since the volume is stable, but the price was up substantially, the tax was also much higher, and that affected our C1 cost position. Now the operating result. So as the CEO said, we've seen the increase in adjusted EBITDA by 100% on a year-to-year basis. And again, let me emphasize that we've seen that growth across all the segments, in Poland, in North America and in Sierra Gorda. We've also had EBITDA going up in the smaller companies of the group like ZANAM, PeBeKa, et cetera. They are doing quite well. They are not growing at such a dynamic rate, but nevertheless, because of that growth, they were able to keep their balances in check, and they were able to keep the financial arrangements to their benefit. Obviously, this is all driven by increased revenue. But I may say that contributors to the EBITDA growth, to some extent, are also related to the fact that we are able to keep the production stable in terms of the cost wherever it's possible. I will address the cost at a greater length later. But as a result of these measures, our operating margin was up twofold, nearly. Now the net income -- the net result of the Capital Group was up to PLN 4.723 billion. The main driving factor was, again, increased revenue. The change in the cost by type is related to the fact that we need to buy more third-party ore, because we have to increase our volume. Therefore, the production and progress and products contributed positively to that. And therefore, we have seen the growth. But an important factor that I mentioned earlier is that very fact that we were part of the joint venture projects, namely the stable predictable production and the growing prices of copper enabled us to come up with the revaluation of the loans that were granted to Sierra Gorda, and that revaluation showed that the value of loans were up by PLN 1.866 billion. So this is our consolidated profit. When you look at the stand-alone results, we show even higher number there. And in that result, we had to include the reversal of the previous write-offs of loans that were granted to other entities that were involved with Sierra Gorda. They were not included in the Sierra Gorda in the consolidated statements. But overall, this is the same outcome. So we have better operational results of Sierra Gorda. We have more predictable revenue and profit and, overall, the macroeconomic environment is much more conducive to our business. Now speaking of costs, the main driver forecast is much greater acquisition of third-party ore. But when it comes to the cost by type, we are tracking them very closely. And there are third-party services and raw materials, consumption and electricity and other energy consumption. This is under control, but there are some other price factors that are beyond our control, like the much higher prices of diesel fuel and the natural gas. And in addition to that, higher prices of ETS allowances. We are hedging these positions, but hedging is not long term. We are not able to hedge ourselves long term. Our hedging policy works short term, and we can see the results. And on top of the price of the steel was up substantially on the general market, and we are actually using quite a lot of steel in the mining operations. And therefore, we were impacted adversely by the growing prices of steel. But again, let me emphasize that we are tracking the consumption of raw materials very strictly, and we are tracking the cost of energy. There are no negative deviations. We do have savings, and we provided for savings in our budget, and we are right on target here in line with the budget. Now the next slide shows our cash flow. At this point, I would like to highlight the negative number that you see there, the negative cash flow, which is related to the change in the working capital, and I've already explained that we had increased inventory, which was a temporary thing. It was a technical arrangement, and it was mostly annealed copper that we had to stock up. We have to stock it up before we actually prepare ourselves for the smelter repair. We also had higher stock up of concentrate copper in the port and that was to prepare for the next year. And as a result, we had more ships coming to the port at the same time, all in June. So it's all coincided in time. In addition to that, we also had a reduction in our debt factoring. The factoring was paid off since there was no need to use it, and we didn't want to incur unnecessary financial expenses. Another thing was the acquisition of intangible assets. So CapEx, it was CapEx for Polish operations and for international operations, specifically Robinson mine. It was all in line with the plan. And the third thing that contributed to that negative number was the payback of our loan to one of the banks, $450 million. We took advantage of the fact that we had free cash flow, and we didn't want to pay the cost of the debt, and therefore, we decided to reduce our debt position. So moving on to the debt. Our net debt to adjusted EBITDA currently or actually at the end of Q2was at 0.7%. So this is a much better situation than last year, and this is all in line with the policy that we follow. The net debt has been fairly stable. But as we indicated here, we took advantage of the fact that we had some positive cash flow, and we decided to pay back our -- one of our loans and everything else is pretty stable. We don't want to keep too much cash because the cash that sits idle does not generate any income, and we don't want to maintain the excessive debt, because this is costly. We have an open credit line for PLN 8.2 billion, and this is a very flexible credit line. We have very good terms. Therefore, whenever needed, we can actually take advantage of that open credit line. Our financial structure, our structure financing is currently very optimum. We continue to optimize that. And our goal is to avoid financial expenses that are not needed. I think that we have pretty much covered our financial performance. So let me turn the floor to Mr. Bugajczuk.

Good afternoon, everyone. Let me walk you through our investment projects and development projects. The first 6 months were closed with the CapEx at PLN 1.36 billion. On the pie chart, you can see the breakdown of the CapEx for the first 6 months of 2021. Perhaps the number is not very impressive, but let me say that our projects are very complex. And many times, these are our multiannual projects. Therefore, we -- like, historically, the Q4 always shows more weight. And I just want to assure you that all the investment projects are delivered according to the plan. And this is the -- more and more important through all of the deep Glogów. The numbers are quite impressive. The annual growth is over 40% at each stage of operation. So looking at these ratios and looking at this growth, we may mention 2 things. First of all, we had more preparatory work completed, and we are also actually getting to the mining in that particular area. Therefore, you may expect to see growing production. Now key projects. First of all, the tailing processing facility at the south is pretty much completed and all different installations that have been planned will be delivered as scheduled. Now deposit access program, we continue to think the GG-1 shaft, which is 1,231 meters. And for the shaft GG-2, we do have a special plan, special development plan already published. And now we are actually moving on with their drill holes. We have also completed our central cooling system. This is an important project it will actually help us produce at the sections of the deposits that were not accessible since the conditions of mining were not adequate. Now all the projects related to BAT conclusions are moving on as scheduled, both in Glogów and Legnica site. We are working on the Glogów one, smelter. And again, the work goes as scheduled. Now our energy development program. We moved -- twofold. We are working on the renewable energy sources, but at the same time, we continue to optimize our energy consumption, and we have already seen the first outcomes. We were able to reduce energy consumption with the same production parameters as we used to have. And the next slide shows how we want to reach a 50-50 split. 50% of energy will be from our own generation, including renewable sources by 2030. As of today, the plan is such that we will split to this 50-50 system, and we will save on CO2 emission by 900,000 tonnes, give or take. And by 2030, Sierra Gorda mine will have 100% of electricity from renewable sources, so we meet the right data to show. Now the next slide shows the photovoltaic farm. And we were able to build that at Legnica smelter. And we also have 2 other projects at Obora and Glogów. All the numbers for these investments are shown next to the pictures. So all these projects have been delivered as scheduled.

Ladies and gentlemen, it seems that we are getting to the end of our presentation. And maybe wrap up, I would like to say that it is worth mentioning that obviously, we will not rest on our laurels having communicated this good news to you. As I mentioned before, we are working on updating our strategy. And hopefully, by September, we will be ready to share with you the results of our studies. But in general, we can say that unless something fundamental changes worldwide, we assume that the following years will be the years of copper and silver. If that is indeed the case, then we need to produce as much as possible with the optimum cost level and with the highest sales while taking care of the cost. But in order to do that, the company needs to transform. It needs to transform, both in the context of increasingly restructured regulations for the energy sector. And in the context of environment, energy use, also in the context of optimization of processes, the use of new technologies, automation and in the context of securing new deposits for further exploration and operation of our business. So what we are looking into very closely right now, that's actually something you are well familiar with. We have been working on green energy, on new energy sources, namely small nuclear reactors as a source of energy; hydrogen, which is potentially interesting source of energy in our sector. Also offshore projects are being considered. A big project for us Bytom Odrzanski license, that is basically, a new mine, a new technology, a new regulatory environment. That is a priority topic for us. Under the license in potassium salts, that's also a very promising future-oriented subject in the context of the current business cycle. All that is the subject of our analysis. We do not fundamentally change our assumptions. In December 2017, when we developed our original strategy, we had this motto uncertainty is the only thing that is certain. You have to be ready for all options. But at the same time, the company needs to transform in the context of opportunities that open up to it. And that is why we are updating our strategy, and that is what we will bring to you in detail in September. Thank you.

Thank you very much to the management board members for their comments. Now I open the Q&A session. This time, we have questions both from the room here and from the chat, ir@kghm.com. Please also ask questions here. The Q&A session will be chaired by Janusz Krystosiak, Head of Investor Relations Department.

I can see the first question.

Pawel Puchalski, Santander. I have 6 questions altogether. Should I split that by sector? Okay, one by one. There will be a few short ones. The first, does the company intend to change, adjust its volume guidance for any of the projects or for any of the metals for the whole 2021?

Are you talking about production?

Yes, production. Okay. That was my first question. The second, you have mentioned this lower content on international. So I would like to find out whether and when we can expect any changes in the metal content. If my recollection is correct, maybe you're talking about...

What do you mean, content? Grade?

Grade.

Okay. Grade.

And another simple question. We have major one-offs. Does the company intend to maintain its dividend payout at the same level as it paid this year? That is, will one-off change in next year's dividend or not? Then there is a beautiful project, 3-megawatts in photovoltaics. My general question is about your strategy. A few years when you showed the strategy, my understanding was very little has changed with regard to renewable energy sources. So now please, do not give us a plan for 2023. That's to come up with, but a plan for the next 2, 3 years. How exactly megawatts and photovoltaics, onshore you are going to put up? There is one more question about progress in the sale of assets. Has there been any progress in your selling of the assets? And the last thing which also contributed to the result, I would appreciate very much a short but informative discussion of this component of costs, stock. You had at minus 700 million in the first and adjustment of cost by stock, minus 700 million in the first quarter, minus 300 million in the second quarter. So we'll be happy to find out what is the management board's view of what the value might be in the third quarter or the second half of the year? That's it from me.

Okay. We'll try to address those questions quickly now. As for the changes in our production plans, excluding unpredictable events, those related to nature and random events, we do not plan any changes here in terms of our production. As for the grade, lower grade on international, Pawel, maybe you can take it?

Ladies and gentlemen, the subject you have brought up concerns one of the assets which is now in the process of sale. So it is inconvenient for us to discuss it at the moment, that results from the existing geology. We are transparent on this point towards the participants of the disposal process. This is being assessed by our potential bias of those assets. And with regard to your second question, I would like to inform you the process of sales of our assets is moving on as planned in accordance with the procedure that we developed, transparent procedure that was communicated inside our organization. We are now at a very sensitive stage of this process. That's why my constraint in informing you more broadly about the subject. I think at the end of the year, we will be able to present you much more information on the point.

As regards our approach to dividend next year, it's not going to change. The dividend policy remains in place. You know that for a couple of years, the company did not pay out. The dividend 2020 was the first year for which the dividend was paid after a long break. Maintaining of the trend, maintaining of the results on the current trends allows us to be optimistic about dividends. Our dividend policy does not change. That's what I can tell you right now. And as for photovoltaic projects, it's not just photovoltaics that is broadly understood and geo-optimization. Ladies gentlemen, we do not have, already, products in this field, so we had to build them from scratch. You know the spacing development plans, environmental impact assessment. Those procedures are very time consuming. It doesn't take several months. It may take as long as years. So the process of placing investments on our land takes time, because the formalities takes take time. We will start 1 8-megawatt investment, then we will start another of 6-megawatts and 2 smaller ones. So that will be the beginning of the investment process. Once we have gone through the administrative preparation, we also have some vapor and gas plants, which helps us improve our energy management. The production process is more intense and we use less energy. We had lower energy consumption. Very soon, we will go out to the market with an acquisition process apart from what we are working on. We want to acquire processes -- projects that are already prepared for development. So we will also have PPA. And apart from our own investments, we will have -- it's weeks or months rather than years that we will be out in the market. These are, in fact, strategic projects. If you make a rough calculation, you will know that if we relied only on photovoltaics, we would have to cover the area of 3 Voivodships with our panels. So it is not the only source that we can utilize in the context of delivering on the promise of being green in energy. So this machine is going ahead full-steam as much as the reality allows us to. And Pawel commented on sales, but there was also a question about stock in the future.

In terms of inventory, as I explained, the inventory was up for technical reasons. We actually have to stock up more inventory, since we know that the modernization program will be continued for the next year and probably 2 years. And that is mostly the Glogów smelter. Therefore, this inventory will be maintained, perhaps in a different form. And at the same time, we also process more third-party ore. And since we work on the third party material, we have to stock it up first, but it is ready for the smelters. So this is all technical. And therefore, it doesn't affect our performance, because this is a repeated cycle. And we've already said that this is also an additional element like sales logistics. And this is the temporary increase in the inventory that tends to go down during the next quarter. I don't want to predict when we are going to have it up and down, because it's more related to the shipment cycles for them, ore or silver concentrate or rolled material. For instance, for Cedynia, we have a higher inventory of rolled sheets because we are getting ready for several weeks of downtime of Cedynia smelter. Any other questions from the room?

My first question was about the volume guidance for the year. As far as I remember, you are way above the plan for molybdenum in Sierra Gorda. And you said that you're not going to change your assumptions. So does it mean that you're going to reduce your production of molybdenum dramatically? Or you're just being cautious and you would rather keep a surplus in place instead of placing a different scenario? How should we look at it? You think that you will deliver the volume as actually identified in the guidance? Or are you actually playing it safe?

Well, the Sierra Gorda budget is subject to different rules that our KGHM in Poland or international. At Sierra Gorda, we have to actually come to the arrangements with our partners, the joint ventures every time we work on the budget. At this moment, we have not had any discussions about any adjustment of the Sierra Gorda budget, including the production volume. Therefore, at this point, we are not going to come up with any formal position regarding the future production of Sierra Gorda during the second half of the year. And just to make everything clear, it's not going to be less than the budget, unless something unexpected happens. But we always play it safe because, as you know, we are in a business where there are many factors that are beyond our control. So we -- sometimes we are at the mercy of nature. And whenever possible, we try to over-deliver if a situation is conducive and the production situation allows that. And to speak about molybdenum in Sierra Gorda, production during the first 6 months of this year was actually lower than production for the same time last year. However, the revenue -- sales revenue is higher because the price was up. In terms of volume, we were down slightly, but the revenue was up because of the higher price. Any other questions from the room from the audience?

[indiscernible] BiznesAlert. I just want to make sure whether you meant onshore or offshore. This is the question to the CEO. But you're speaking about the strategy update? Or -- you said that you are looking at various electricity options.

Yes, we are also looking at offshore options.

Yes. And I also wanted to ask you about the impact of electricity prices on your financial performance. And Mr. Kensbok said that natural gas prices is also a major factor, because the price of natural gas is going up. So are you still looking at the gas units because we know that natural gas has a tap in the EU? And I also have a question about the new deposits. Are we going to expect at any time during the conference seasons?