Lotte Chemical Corporation (A011170) Earnings Call Transcript & Summary

Good morning. This is Hoon Kim, Head of IR at LOTTE Chemical. Thank you for joining today's conference call. We will now start the call regarding the company's decision to execute a capital increase. The call will start with an introduction of the attending executives of the company and then a presentation on the background of the capital increase and the company's battery materials business plan before taking your questions. The presentation will be simultaneously interpreted, and the Q&A session will be consecutively interpreted. Today, EVP, Yong-Seok Kim, Head of our ESG Strategy Group; Minwoo Kim, VP of Corporate Planning; [ Jong-Won Kang ], VP of Finance and Accounting; and In-ku Park, VP of Battery Materials are also attending this call. Our Head of ESG strategy, EVP, YS Kim, will make a presentation on the background of the capital increase decision and introduction of the company's battery material business before opening the floor for questions.

Good morning. This is EVP, Yong-Seok Kim, Head of ESG Strategy at LOTTE Chemical. The company already announced its capital increase decision last Friday through public disclosure and press release and has organized today's call to provide more details and background information to the shareholders and investors. As already disclosed, the paid-in capital increase will be approximately KRW 1.1 trillion rights offering to existing shareholders. Subscriptions will be received from existing shareholders and ESOP shareholders from 19 to 20 January 2023. And then we publicly offer a new fractional or forfeited shares. The expected subscription price is KRW 130,000, which was calculated by applying a 20% discount on the stock price of the reference date, which was the day immediately preceding the BOD resolution. The final price will be the lower of the first and the second subscription price to be determined subsequently. The purpose of the capital increase is to raise funds for the acquisition of Iljin Materials shares according to the SPA signed in October and also to raise operational funds for the company. Given the expanding EV demand, the company, after carefully studying various funding options for these purposes, the company has decided to take the paid-in capital increase to diversify its funding sources preemptively, considering the recent global inflation rate increase and resulting tightening of the capital market. While the news may have regrettably caused concern to our shareholders, the company will do its utmost to invest the funds raised in the capital increase to quickly deliver tangible results from our new businesses and achieve a rerating of its EV to contribute to enhanced shareholder value. I would like to offer some more details about the background of the capital increase. The company has been focused on diversifying its business portfolio away from its existing petrochemical focus and seeks to develop a high-growth EV battery material business as a new pillar of its business. As part of this, the company has planned preemptive investments in sync with the reshuffling of the global EV supply chain. A major win was the signing of the agreement to purchase shares in Iljin Materials EV, which is a leading battery foil manufacturer last October. Including the Iljin purchase price of KRW 2.7 trillion, the company's CapEx plan for next year is currently around KRW 4 trillion. The company has around KRW 2 trillion in cash and cash equivalent assets available at the LOTTE Chemical stand-alone level. And its EBITDA is expected to be around KRW 1 trillion due to the recent rapid deterioration of business conditions. Accordingly, the company has already switched to an emergency management system in response to the increased uncertainty and is revisiting its existing investments and spending plans actively and cutting spending, unless essential or necessary for future growth. Also, it is actively diversifying to high-growth, high-value businesses to drive improvement of its mid- to long-term performance. The paid-in capital increase is expected to provide stable liquidity for future investments, and the company's business performance is also expected to have already bottomed out in the third quarter and turn around some time next year. The outlook on next year's business performance is highly conservative forecast based on separate level P&L with an emphasis on stable fund management. Currently, it appears likely that the company may return to a profit-making quarter in fourth quarter this year, and there may be additional upside to the company's earnings next year depending on the pace of the rebound. Next, I would like to share a bit more details of our new business plan. Last March, at the CEO IR Day, the company had announced its 2030 mid- to long-term vision. The key feature is to transform its existing commodity-based petrochemical portfolio to a more diversified one, including high-value and green products. The goal is to grow to a scale of revenue of KRW 50 trillion by 2030 and to grow in quality by increasing the share of high-value businesses to 60% of its revenue from the current 40%. Expansion of the green business is a key part of this vision, which is supported by 3 key strategies, that is hydrogen energy, battery materials and recycling business. The details of these strategies were explained, and among these 3 areas, battery materials is materializing earliest and that is why we are making preemptive investments into this area. The goal for the battery material business is revenue of KRW 7 trillion by 2030 to be supported by cumulative KRW 4 trillion at LOTTE Chemical level. And aside from this, additional KRW 3 trillion cumulative investment at Iljin's own resources to expand its copper foil capacity. In the case of the battery materials business, we are currently in a critical period where the global EV battery supply chain is undergoing reshuffling. Therefore, in order to secure business competitiveness early on, preemptive investment is necessary. Thus, necessary investments in key materials for electric vehicles until 2023 is KRW 3.2 trillion. And until 2026, investments will be executed in an intensive fashion and thus the preemptive financing this time around is to contribute to the expansion of the battery materials business for the company. Through such efforts, the battery materials business is expected to grow to more than KRW 5 trillion in revenue and KRW 1 trillion in EBITDA by 2027, and we aim to increase its performance to KRW 7 trillion in revenue and more than KRW 1.3 trillion in EBITDA by 2030. In the case of investments for LOTTE Chemical, the cumulative investment plan till 2030 adds up to KRW 4 trillion, as mentioned previously. And as for the battery copper foil business, which we recently signed an acquisition contract, we plan to engage in a global capacity addition of 225,000 tons by 2027 and an investment of KRW 3 trillion. In order to expand our battery materials business, we are focusing on attaining in a timely manner the production capacity for the 4 major materials used in existing lithium-ion batteries while at the same time making efforts to harness in advance core technologies for new materials for next-generation secondary batteries. First off, in the case of key materials for lithium-ion batteries in addition to entering into the copper foil business through the decision to acquire Iljin Materials, the leader in electric foil, we decided to invest in organic solvent facilities for electrolytes as well and investments are under way in Daesan currently. Also in June of this year, we established the local investment holding company, LOTTE Battery Materials USA, to expand our business in the U.S. in earnest. And through a joint venture with LOTTE ALUMINUM, we materialized our plan to initiate our global cathode foil or aluminum foil business. Furthermore, if we include our existing business that produces materials for separators, we can see that we now have established the foundation to secure production capacity and the global supply network for the 4 major materials of lithium-ion batteries, namely, cathode foil, anode foil, electrolytes and separator materials. With regard to next-generation battery materials, active efforts are also being made to secure technologies using open innovation in the areas of vanadium, electrolytes and ESS charging business. Let me now give you an overview on the key battery materials business currently being promoted. First of all, we have the battery copper foil business that will be the biggest growth engine in the battery materials business. Demand for battery elec foil used as anode material is expected to witness an increase with the growth of usage while supply is anticipated to be tight continuously into the future due to a high entry barrier. And as of 2022, the global demand for battery elec foil in the market stands at 580,000 tons and supply at 500,000 tons, of which supply is short of demand by around 80,000 tons. And in 2025, the supply shortage is to increase to 160,000 tons. Despite the supply shortage, the production of high-quality copper foil products requires large-scale investments to enter the market as well as production technology. And the switching cost for customers is also high. So new companies' entry into the market is expected to be relatively limited. In the case of Iljin Materials' copper foil business, which LOTTE Chemical decided to acquire last October, owns top-tier technology unrivaled in the industry. And based on this technological capability, it has established a portfolio of next-generation high-value-added products. Furthermore, its productivity tops the industry with material production yield. And based on long-term supply contracts already secured with domestic and foreign battery companies and major electric vehicle OEMs, it plans to expand its production foothold into Europe and the Americas. In particular, in Malaysia, where the existing production base is located and Spain where capacity addition is to take place in the future, it is easy to secure renewable energy at relatively low production cost and thus will be advantageous in terms of cost competitiveness and sustainable growth going forward. In the case of the copper foil business to be acquired by LOTTE Chemical, it currently has a production capacity. And based on an already secured customer demand, the plan is to expand the capacity to 225,000 tons by 2027. And we believe that the investments that would be required would be KRW 2.5 trillion to KRW 3 trillion. But as I have already mentioned, already the existing local company does have the cash equivalents or existing cash assets and the future operating cash flow to be generated going forward will be sufficient to self-finance the KRW 3 trillion. Therefore, we anticipate that any additional investments from LOTTE Chemical will be unnecessary. Based on the synergy between our global business competitiveness and Iljin Materials' world-renowned technology and production capabilities, we will do our best to pursue the goal of turning the elec foil business into global #1 to contribute to enhancing corporate and shareholder value. Next, let me elaborate on the electrolyte organic solvent business where active investments are currently underway. Electrolyte organic solvent is a core material for electrolyte products. Like copper foil, global demand is expected to grow explosively. So it was expected to grow from the current 280,000 tons to 3 million tons by 2030 in line with the explosive growth in demand for electric vehicle batteries. LOTTE Chemical is expanding its product range to include high-purity EC, DMC, EMC and DEC within the Daesan plant and is constructing a total 110,000-ton electrolyte organic solvent production facility. Currently, the entire volume of electrolyte organic solvents in Korea is import-dependent. So it can be said that LOTTE Chemical is the first in Korea pursuing commercialization of the product. In Korea, the business is expected to kick start in earnest after 2024 when mechanical completion is done. And moreover, to expand the global business, LOTTE Chemical, based on an MOU signed with Sasol in the U.S., is reviewing the possibility of constructing organic solvent production facilities for electrolytes. We expect to be able to generate a revenue of KRW 300 billion to KRW 400 billion by 2030 through the electrolyte organic solvent business, and we expect to achieve a solid level of profitability up 10% or more in operating margins. Lastly, I would like to talk about the cathode foil business. In July of this year, LOTTE Chemical established a cooperation with LOTTE ALUMINUM to produce cathode foil, namely, LOTTE Battery Materials USA. In the case of this joint venture, 70% of the stake is owned by LOTTE Battery Materials USA, a 100% subsidiary of LOTTE Chemical. LOTTE Chemical plans to expand the cathode foil production foothold in the U.S. and Europe where high growth is anticipated. And through the establishment of a U.S. entity, we expect our business to expand in the Americas in earnest. Demand for cathode foil in the U.S. is currently at 10,000 tons but is expected to increase to 100,000 tons by 2030. Despite this demand growth prospects, because there is no cathode foil producer in the U.S., we believe through our local production entity we will be able to secure unrivaled competitiveness in the market. The cathode foil production facility of LOTTE ALUMINUM MATERIALS USA currently under construction in the U.S. is approximately 40,000 tons and is targeted for a mechanical completion in the second half of 2024 and commercial production in 2025. Not only in the U.S., but also in the European region we aim to add capacity to 140,000 tons by 2030. And through this, cathode foil revenue is expected to reach KRW 400 billion. Lastly, let me go into the expected impact. In recent years, the business environment experienced unprecedented rapid change, and in line with these changes, LOTTE Chemical is expanding into the high value-added growth and to new green growth business areas and accordingly announced its new 2030 goal early this year. We have set a revenue target to achieve KRW 50 trillion by 2030 and a goal to have our high value-added and green business to account for 60% of the total. And furthermore, we established a goal to achieve 10%-plus in operating profit margin. In addition to revenue growth targets, we added a corporate value target as well to achieve KRW 50 trillion in market capitalization by 2030. The core aspect to increasing corporate value is to improve the low-valuation situation coming from the current petrochemical-skewed portfolio of the company, and based on the high value-added green new business portfolio, have the company be reassessed for its appropriate valuation. Therefore, in order to have the battery materials and new growth business highly valued in the market achieve visible performance early on, we will actively strive to nurture new businesses, including the acquisition of the elec foil business. I believe LOTTE Chemical is now at a crossroad for another growth forward. The financing raised through the paid-in capital increase will serve as the foundation in the process of advancing into the high-growth, high-valuation businesses. And by generating stable profit and enhancing corporate value, we will do our best to render back to our shareholders the achievements. Thank you very much.

[Interpreted] Now Q&A session will begin. [Operator Instructions] The first question will be provided by Jae Sung Yoon from Hana Securities.

[Interpreted] Yes. I have 2 questions. The first question is regarding the funding and the funding plans. Of the KRW 2.7 trillion total of the purchase price for the Iljin Materials shares, you've mentioned that you will be using around KRW 600 billion from the capital increase. Can the company provide an update of its funding plans regarding the rest of the Iljin Material purchase? Also related with that, I think the market is still concerned that they may -- there may be additional funding needs related with LOTTE E&C. Are there any thoughts or opinions that the company can share regarding Lotte E&C-related funding? My second question is about the company's business performance. Is it correct that during the presentation, you mentioned that there is a possibility that the company may record a profit in the fourth quarter?

[Interpreted] I think your first question about the funding plan for the KRW 2.7 trillion of Iljin Material purchase, the plan is to source KRW 1 trillion out of that KRW 2.7 trillion from internal sources, including the funds to be raised, the proceeds from the upcoming capital increase. The remaining KRW 1.7 trillion will be sourced through external funding. We're currently discussing this with various financial institutions. The discussion is making progress, and our plan is to receive commitments from the financial institutions by end of this year. So to answer your question, once again, the company's plan for the KRW 2.7 trillion for the Iljin Materials purchase is KRW 1 trillion from internal sources and KRW 1.7 trillion from external funding. And also to just give you a color of the KRW 1.7 trillion external funding, currently, that discussion is making progress smoothly without any issues. You've also asked about the Lotte E&C-related funds. The company has provided loan for Lotte E&C. That is a 3-month loan. So that loan will come due as of January 8. Currently, there are no plans of extending that maturity. Let me correct that, the due date of that 3-month loan is 18th of January, not 8. At the same time, we are being told that Lotte E&C is also continuing to prepare its own funding plan. Lotte E&C is preparing its own self-efficient funding plans, for example, by converting some of its project financing liabilities onto main project financing, also converting some of that to secured loans and also repaying some of its liabilities.

[Interpreted] This is the VP of Corporate Planning. I'll answer your second question about our fourth quarter business performance. On a consolidated basis, the key factors that make up LOTTE Chemical's performance is our basic chemicals business, our advanced chemicals business, LC Titan, LC USA. And starting from the fourth quarter, Lotte Precision, Lotte's Fine Chemicals results will be consolidated onto the company's consolidated results. Now if I break that down a bit more detail. As I mentioned during the third quarter earnings call, a large factor for the weaker performance in third quarter, especially from the basic chemicals business and LC Titan, was the lagging effect in the increase of the feedstock price and also the loss on valuation of our inventory. Now to give you an update on these 2 factors. In terms of the lagging effect on the feedstock price, currently, our input feedstock is at a price similar to the current market price. And so while the feedstock price is still volatile out in the market, the lagging effect of the feedstock price has definitely decreased. Also, in terms of the valuation loss on inventory, some of the valuation loss on inventory that we had recognized during the third quarter are being reversed throughout the fourth quarter. And so while there is some volatility until we ended the quarter, we do think that the impact of the valuation loss on inventory would be much more limited versus what we saw in third quarter. And then to address the other business units, their advanced materials business is a relatively more stable performer, as you know. And what we are seeing until November is that their demand of the downstream customers are returning after they've gone through some inventory adjustments. Traditionally, December is a weaker month versus November, but our advanced material business has been recording stable performance month-over-month during 4Q. Then regarding LC USA, a major factor during the third quarter performance was the higher-than-expected gas price in North America. This is attributed to the war in Europe, which has increased export of gas from North America to Europe, and this has resulted in higher-than-expected gas prices in third quarter. So even though gas price is something that the company cannot exactly predict, we are looking at LC USA's performance each month during the fourth quarter and we have noticed a significant impose in its performance during fourth quarter versus third quarter. And then the last piece would be Lotte Fine Chemical. After going through a turnaround in third quarter, we expect Fine Chemical to contribute positive performance to our consolidated results in fourth quarter. And so to just recap my answer regarding our fourth quarter outlook, while it is difficult to say that we're seeing a very strong rebound on the demand side of the business, we are, at our own business level, seeing positive factors versus what we experienced in third quarter. For example, in fourth we will have the contribution from Lotte Fine Chemical. Also the feedstock lagging effect is definitely decreasing versus third quarter. And also the month-by-month performance that we're seeing from our key business units are improving. And that is why, overall, we see that there is a possibility that the company would record a profitable quarter in Q4.

[Interpreted] The following question will be presented by [ Jihoon Kim ] from Eugene Investment & Securities.

[Interpreted] My question is about the order backlog at Lotte E&C level. Currently, Lotte E&C is saying that it has a total order backlog of around KRW 50 trillion. What is your understanding of the project finance-related list of projects in that? So that would exclude any government-placed projects. What is the size of the project financing projects within Lotte E&C's order backlog?

[Interpreted] Yes. This is VP [ Jong ] of Finance. LOTTE Chemical does have access to the list of projects of Lotte E&C. We have been going through the list of projects, especially the project financing-related projects. We have not yet completed the entire list. We do have, therefore, specific numbers behind Lotte E&C's project financing-related projects and exposure. However, we're not able to provide you with the details that we are seeing. At the same time, what Lotte E&C has provided us is a specific plan of how it aims to reduce its project financing exposures item by item. According to this plan that's applied by Lotte E&C, we are confident that a considerable -- a large amount of its project financing-related exposures will be resolved starting from fourth quarter this year and quarter by quarter throughout next year. However, we are not able to disclose specific numbers during this call.

[Interpreted] [Operator Instructions]

[Interpreted] Well, since there's no further questions, we will close the call. But before we close the call, EVP Yong-Seok Kim will make some final comments.

[Interpreted] This is EVP Yong-Seok Kim of ESG strategy at LOTTE Chemical. I would like to address a bit more in detail the market's concern regarding Lotte E&C. If I understand correctly, there are 3 key points in the market's concern regarding Lotte E&C. One is Lotte E&C's funding situation, number two is the possibility of being there additional funding support to Lotte E&C and the third is whether the borrowings that have already been extended to Lotte E&C by LOTTE Chemical will be repaid on time. As the CFO has mentioned, we are looking at the detailed funding situation of Lotte E&C. We are not able to, however, provide or share that with you today. However, what we have inquired and also what we have verified, we believe that a considerable amount of Lotte E&C's risk has already been resolved and that there are no grounds for the market to be concerned. As you know, Lotte E&C has a large portion of very high-quality project sites. It was the temporary tightening of the credit market caused by the LEGOLAND situation that required the funding support to Lotte E&C, and LOTTE Chemical made the decision to provide that temporary loan because Lotte E&C is an important strategic partner. Lotte E&C is an important strategic partner and that not only LOTTE Chemical is the larger shareholder, but also Lotte E&C is the major construction company that builds the chemical plants that LOTTE Chemical needs and therefore Lotte E&C has various know-how and understanding of the facilities that LOTTE Chemical requires. And so based on these factors -- considering these factors, LOTTE Chemical last month decided to participate in Lotte E&C's capital increase and also to provide that temporary loan. Our understanding is that, that temporary situation has been resolved and we do not see any reason for the market to be further concerned. And also before I end, regarding the capital increase that we have just announced, as you know, currently, LOTTE Corp, which is the holding company and other Lotte-related affiliates, combined, own around 54.94% stake in LOTTE Chemical as of end of third quarter. Whether each company will participate in the announced capital increase is, of course, a matter for each of their BODs to resolve on, therefore, we are not able to provide any definitive answer on this call of whether the shareholders of the LOTTE affiliates will participate. However, we are confident that at the LOTTE group level, there is a strong consensus behind the growth and the value enhancement of LOTTE Chemical from a long-term perspective. And therefore, given that consensus at the group level, we believe that we will be able to complete this capital increase successfully and contribute to the overall development of the LOTTE group. And thank you very much for joining our call despite your busy schedules. [Portions of this transcript that are marked [Interpreted] were spoken by an interpreter present on the live call.]