Lotte Chemical Corporation (A011170) Earnings Call Transcript & Summary

Good afternoon. This is Kim Hoon, Head of the IR team at LOTTE Chemical. I would like to thank you for taking the interest and the time to attend today's earnings call despite your busy schedules. We will now begin the full year and Q4 2022 earnings conference call for LOTTE Chemical. I'll first open it up by introducing the management who are present, go over the business results of Q4 '22 and Q1 2023 outlook and then proceed with Q&A. Simultaneous interpretation will be provided throughout the presentation and then consecutive interpretation during Q&A. Please allow me to introduce the management joining the call. We have with us CSO, Kim Yeon-Seop of the HQ Strategy Group; we have Vice President, Kim Minwoo, the New Business Development Division Director; Vice President, Kang Jeong-Won, Financial Accounting Division Director. From Basic Chemicals, we have Executive VP, [indiscernible], the Strategy Management Division Director; Vice President, [ Kim Jin-ho ], Monomer Division Director; Executive VP, [indiscernible], Polymer Division Director; and VP, [ Lee Sang Hyeon ] Aromatics Division Director. From Advanced Materials, we're joined by General Manager [indiscernible]; and from LC Titan Executive VP, Philip Kong; from Battery Material, VP [indiscernible]; and Hydrogen Energy Division Director, VP [indiscernible]. Now let me walk you through our 2022 annual performance. Sales in 2022 recorded KRW 22,276.1 billion, up 22.9% Y-o-Y and operating income recorded minus KRW 758.4 billion. By business, demand slowed due to global inflation, economic recession and except for Advanced Materials, other businesses saw their operating income turn to a net loss. In particular, the performance of Basic Chemical and LC Titan decreased significantly Y-o-Y due to the increased capacity additions of commodity pet chem products in the region and contraction of global demand. LC USA also posted a net loss due to the natural gas price hike. In the case of Advanced Materials, profitability decreased Y-o-Y due to weak demand, but it maintained solid performance vis-a-vis the market by increasing the sales portion of high value-added compounding products to more than 70% of the total. Lastly, LOTTE Fine Chemical was incorporated into consolidation as a subsidiary company at the end of August, and its earnings performance for 4 months from September to December is included in the 2022 earnings results. Next, I would like to talk about the Q4 '22 business results. Q4 sales were KRW 5,495.9 billion, down 3.3% Q-o-Q while operating income was minus KRW 395.7 billion and operating margin, minus 7.2%. Although product spread improvement was limited due to the global economic downturn and weak year-end demand, the feedstock burden was mildly eased as oil prices stabilized and the amount of operating loss was slightly reduced from the previous quarter. On the non-operating income, there was the effect of Daesan plant insurance payment from the previous quarter, expense recognition according to its consolidated asset impairment evaluation and decrease in equity method income. Pretax income was minus KRW 541.5 billion. And now our financial position. At the end of 2022, assets were KRW 26,790.1 billion, an increase of KRW 3.9 trillion Y-o-Y while cash and equivalents were KRW 3,724.5 billion, down KRW 758.1 billion Y-o-Y. Liabilities stood at KRW 9,507 billion and borrowings KRW 6,167.9 billion and shareholders equity KRW 17,283.1 billion. As of year-end 2022, the debt ratio is stable at 55%. Next, I'd like to talk about the results and outlook by division -- by business division. In Q4 2022, the Basic Chemical division sales amounted to KRW 3,167 billion and operating income was minus KRW 285.7 billion, and operating margin of minus 9%. Compared to the previous quarter, oil prices gradually stabilized and the feedstock costs burden slightly eased, but profitability fell slightly Q-o-Q due to weaker demand caused by global recession and seasonal factors. A few words on our Q1 2023 outlook. The supply burden in Asia is expected to continue as the new capacity that was put on hold came online in the region at the end of last year, but profitability is expected to recover gradually as expectations for China reopening are reflected in product demand. Let me now turn to the Advanced Materials business. Advanced Materials revenue in Q4 '22 stood at KRW 1,079.4 billion and operating profit was KRW 32 billion with an operating margin of 3%. Downstream demand continued to be weak due to the global economic downturn. However, stabilization of PC feedstock cost and lower shipping cost burden led to improvement in profitability Q-o-Q. For the first quarter of '23, while overall demand increase is limited, ABS product capacity expanded significantly in the region, which can be intensified in effect on the supply burden. However, as mentioned earlier, China's reopening would help the regional demand to gradually recover. We anticipate that we'll be able to maintain the profitability level of Q4. Next is performance of LC Titan. Q4 '22 LC Titan's revenue was KRW 624.4 billion with operating loss of KRW 111.7 billion. Revenue decreased Q-o-Q due to adjustment in production facility utilization and reduction in product prices. In terms of profitability, demand continued to be sluggish due to the global economic downturn and seasonality effect of the year-end period. However, as feedstock burden eased and inventory valuation losses decreased, profitability remained at a similar level to the previous quarter. In the first quarter of '23, after the Chinese New Year's holidays, expectations around reopening will lift up demand gradually. But because of the influx of supply from newly-built capacity in Southeast Asia, profitability improvement is expected to be rather limited. Next is LC USA's performance. In Q4 '22, LC USA recorded KRW 207.5 billion in revenue and minus KRW 25.6 billion in operating profit. Due to MEG product price fall and facility shutdown, actual sales decreased slightly Q-o-Q. But with an increase in the recent change in accounting method for byproduct sales, they were reflected in Q4 in lumpsum, which led to a temporary increase in revenue compared to the previous quarter. Please note that the sales amount does not affect the current operating profit. Profitability improved as the prices of ethane or feedstock stabilized downward compared to the previous quarter. But COVID-induced facility shutdown created opportunity loss, which made improvement rather limited. The facility shut down for a month from December 23rd to January 24th, currently where cracker and MEG facilities are in normal operation. In Q1 of '23, some of the opportunity cost from the facility shutdown will be reflected. But as the rising U.S. natural gas inventory stabilize the price of ethane, we anticipate a gradual improvement in profitability. Lastly, I would like to talk about the LOTTE Fine Chemical business. The company additionally acquired a stake in LOTTE Fine Chemical during the Q3 of last year and incorporated it as a consolidated subsidiary at the end of August '22. Accordingly, from this Q4, the full 3 months performance started to be reflected in our consolidated results, so I'll briefly explain. LOTTE Fine Chemicals revenue in Q4 of '22 was KRW 496.6 billion, and operating profit was KRW 48.2 billion, with an operating margin of 9.7%. Sales decreased Q-o-Q due to regular maintenance of production facility and weak prices of major products. As for the Q1 outlook of '23, it is expected that due to the global economic downturn, downstream demand for the chemical business will remain weak. However, with the end of regular maintenance, production and sales volume will normalize, which we expect will offset some of the impact of weak demand. Next is our major investment plan. Investment in EV batteries, electrolyte organic solvents, mainly EC and DMC is scheduled to be reached mechanical competition in for Q4 of this year and EOA expansion is also targeted for Q4 this year. Other ongoing projects are underway as planned. For more details, please refer to Page 11 of the IR material. With this, I would like to conclude the Q4 '22 earnings report and Q1 '23 outlook presentation. Now I'd like to welcome CSO, Kim Yeon-Seop to talk about 2022 business review and business strategy for 2023.

Hello. I'm CSO of LOTTE Chemical, Kim Yeon-Seop. I'd like to express my gratitude to the shareholders and investors for taking interest in LOTTE Chemical and joining us for earnings call every quarter. It is regrettable that my New Year's greetings come with the news of negative results, annual operating loss. In 2022, Russia-Ukraine war sparked instability in oil supply and demand, which in turn led to higher oil prices. Demand contracted due to global retrenchment, while oversupply of petrochemical products persisted. In retrospect, it was a difficult year. Amid this unfavorable internal and external environment, the company established Vision 2030. The vision is to secure 3 new growth engines of Battery Materials, Hydrogen Energy and Recycling Business, and to expand the proportion of high value-added eco-friendly products to 60% of the 2030 sales target of KRW 50 trillion and to reach corporate value of KRW 50 trillion in market capitalization. We did not stop at just declaring such a vision, but also executed a business portfolio reform in accordance with the strategic direction with the sense of speed. Last October, we decided to acquire a global top tier producer of battery foil for secondary battery Iljin Materials. It will facilitate future business investments, which are essential for sustainable growth in the future. We carefully reviewed various measures to preemptively secure financial resources in preparation for uncertainties. We reached a decision to conduct paid-in capital increase in November, and thanks to your interest and support despite the market crunch, we exceeded the subscription rate of 100% and successfully raised KRW 1,215.5 billion, which is 20% higher than the original target of KRW 1 trillion. In addition, to sharpen our focus on new growth engine, we'll look to sell off non-core businesses, including an overseas subsidiary, which is LOTTE Chemical Pakistan, divesture of which is decided last January. As such in 2022, the company laid the foundation for the company's sustainable growth amid intensifying external instability. We have high hopes that 2023 will be the first year when our efforts come to fruition and key achievements start to materialize in earnest. Of course, in 2023, the global economic recession and supply burden might keep the petrochemical industry in a difficult situation, speed of recovery can be slower than expected. However, oil and feedstock and raw material prices, which soared in 2022 are stabilizing and the possibility of future deterioration in the global economy and demand is limited. And the dominant viewpoint regarding the industry business environment or condition is that it hits the lowest and starts to bottom out in the second half of last year. Hence the gradual rebound in business condition is also expected. Against this backdrop, LOTTE Chemical first seeks to improve operational efficiency with a view towards strengthening the competitiveness of our existing core business. We are expanding the amount of LPG feedstock, the availability and possibility through facility improvement, so that Naphtha and LPG can be flexibly used according to the raw material market condition. In particular, as Daesan NCC facility investment is completed, in the second half this year, it is expected that the proportion of possible LPG feedstock utilization in domestic cracker will increase from 20% to more than 40%. This year with regard to new growth engine for the future, one of the most important initiatives is the acquisition of Iljin Materials. The acquisition process is currently in the final stage and is expected to be completed during the first quarter. Therefore, Iljin Materials will be, starting from this year, incorporated as a consolidated subsidiary of LOTTE Chemical with the contribution of more than KRW 1 trillion in annual revenue. Through the successful PMI after the acquisition, if we combine Iljin Materials' technology and LOTTE Chemical's experience in overseas business and operational capabilities, we will be able to leap forward as a global battery foil company. After the acquisition process is complete, we will arrange a session to explain to you the business plan in greater detail. Other various projects in line with the Green Promise 2030 strategy are also proceeding without a glitch. The electrolyte organic solvents, EC and DMC, are scheduled to be completed by year-end, and the chemical recycling PET plant is also to be completed by 2024. Lastly, I'd like to talk about the proposed plan for the fiscal year dividend for 2022. The company's basic policy is a dividend payout ratio of 30% based on standalone P&L. To enhance shareholder value and dividend stability, dividends are determined with comprehensive consideration of not only the dividend payout ratio, but also dividend yields. In 2022, because the standalone net income was in a negative territory, due to the worsening internal and external business environment, we took into account the dividend yield as well for the fiscal year dividend. As a result, the dividend per share of KRW 3,500 was reviewed internally and the final decision on the topic will be made at the General Shareholders Meeting in March. Despite the difficult business environment in 2023, the company will continue to carry out plans to strengthen the competitiveness of existing businesses and secure new growth engine. We will do our utmost, not only to improve performance and results, but also to enhance corporate value through business structure transformation. Thank you.

[Operator Instructions] The first question will be presented by Woo-Jae Chun from KB Securities.

I have 2 questions. One is internally, when do you think there will be the breakeven point? And by product, could you discuss the expected BEP period? And the second question has to do with dividend. Although you made a net loss in 2022, the payout was still in the range of 2%. So even if you do make a net loss again this year, do you expect the same amount of payout ratio? Of course, it will depend on the situation at year-end. But what is your willingness to -- how much are you willing to pay as dividend?

This is the Director of New Business Development Division. I am going to address the first question as for the BEP improvement period for the petrochemical products. In the first quarter, we are seeing overall improvement compared to the previous quarter. So within the region and in the China market, we are seeing the prices recovering. But still the feedstock cost remains volatile, so it is difficult for us to predict the direction of the prices. So to break it down by months or by period that will be difficult to do at this point in time. And as we see that the product situation will recover, we also have to consider that our plant as well as the other facilities in the region are now underutilized and there is a possibility that the utilization rate will change. But compared to the previous quarter, we do see positive signals. So compared to the first half of this year, in the second half, we will see great improvements. And I'd like to address the second question about particularly which product. We do see balanced recovery in prices throughout the portfolio. So it's difficult to pinpoint exactly which product, but on a consolidated basis on a year-on-year basis, we are seeing -- we are expecting great improvement from our LC USA. We are nearing the end of the winter season, and as we look at the ethane inventory and the production capacity, they look very stable. So compared to the previous year, the ethane prices look stable and are much lower. And the MEG prices are also recovering. So LC USA equipped with its competitiveness, whether it's ethane base, we do see that it will recover on an annual basis. But that's not to say the whole MEG product category will be profitable, because some of the MEG products are being produced in Korea.

I'd like to address this dividend-related question. I am the CSO, Kim Yeon-Seop. The company out of all the shareholder return policies considers the dividend policy as most important. And I also believe that the shareholders consider it as important. And so it is the company's policy to have some visibility and predictability in our dividend payout ratio. So the basic premise is 30% dividend payout ratio. But like this year, when the petrochemical industry was volatile, we could not guarantee the dividend yield. So we looked at the dividend yield also to guarantee the dividend stability. If we refer to the dividend -- the return dividend yield, we reference the government bond yield, the 3-year treasury bills. This is to be decided and confirmed at the BOD meeting and also the General Shareholders Meeting. But I'd like to take this opportunity to confirm the firm will of the management about dividend policies.

Your next question will be presented by Dong-jin Kang from Hyundai Motor Securities.

I just have one simple question. As you just mentioned that ethane prices in the U.S. have become lower, so that also brought down the PE prices lower, and I think it is reaching a similar level to the prices in Asia. So I was just concerned whether the U.S. produced PE supplies would be shipped to Asia considering the cracker utilization rate in the U.S.

Hello, this is [ Yoon Seung Ho ] Director of Polymer Division. Even before the COVID-19, the U.S.-produced polymer supplies had been shipped to the region. It was just because of the recent COVID-19 and the logistics issue that the shipments had been suspended. We expect continued shipment of U.S. produced polymer into the region. So if we look at the overall market, it is true that the U.S. polymer is making its way into the region. But if you look at the sales structure of our company, that is not in direct competition with our products. So it will not affect LOTTE Chemical's profitability.

Your next question will be presented by Jin-Myung Lee from Shinhan Securities.

I have 2 questions. One is what is the outlook for the upstream and downstream products? And the second question is, what is the utilization rate of cracker and the downstream side? And how do they compare with the competitors' utilization rate?

This is [ Kim Jin-ho ], Director of Monomer Division. As for the added capacity for upstream, for the ethylene, it will be added by one -- 10 million. And if you look at the demand improvement, it will be adding the base effect from last year and also the incremental demand increase, it will raise by 5%. So demand increase of 10 million. So for ethylene, there will be no change in the utilization rate. But as far the ethylene, the Asian crackers have cut down on their productions and when the market situation recovers, the utilization rate is expected to go up again. So we do believe that not sudden, but gradual recovery in the market is to be expected. So the good side of this is all in the mid to long-term in the period of 2024 to 2026, added capacity, capacity addition is limited, whereas demand will grow incrementally and gradually. So we will be able to resolve this current oversupply issue and we will have substantial recovery of the market. As for the competitors' upstream propylene and lithium, in 2023, the utilization rate hit bottom, and in 2024, it is expected to recover. Yes, this is Yoon Seung Ho, Director of Polymer Division. For HDPE, the utilization rate 84% and PP 80%. For ABS 75% and PC 78%. As for the other Korean players, their PE, PP utilization rate is in the range of 70% to 80% and also the Chinese and the Asian players in the same range of 70% to 80%. It is expected that the utilization rate is in line with the naphtha cracker utilization. As for polyethylene and polypropylene, we do not have plans to upgrade our utilization rate in Q1. But ABS, we plan to increase by 10%, and PC utilization rate expected to be increased by 15% in Q1.

Your next question will be presented by Hyunryul Cho from Samsung Securities.

I have 2 questions. One is about the Iljin Materials. You talked about PMI and could you give us the details of what kind of processes you will go through for the post-merger integration? And I was wondering about the interest rate. The funding rate, I believe would also affect your balance sheet. So considering the interest rate, do you think it is possible to turn profitable within the year with the acquisition of Iljin Materials? And the second question is about the downstream side. Although some of the product prices are increasing, it is difficult to expect the downstream products to go up in price. And how do you see the market after the Chinese Lunar New Year? And do you think you'll be able to turnaround into profits within the second quarter?

This is Kim Yeon-Seop, the CSO. I'd like to talk about the PMI. We are conducting the regular PMI post acquisition. And as for Iljin Materials, we are dedicated to analyzing the competitors, the business environment and their customers. We consider Iljin Materials very technologically savvy with its high technological power. And also it does have a high growth potential. So our PMI activities will focus on maximizing the growth potential to make it sustainable.

This is the CFO, Kang Jeong-Won. I'd like to talk about the funding rate. Initially, we consider the acquisition financing to be in the amount of KRW 1.7 trillion, but we were able to internally finance KRW 400 billion out of that. So only KRW 1.3 trillion remains for the acquisition financing. As we mentioned before, the interest rate is not much different from the market rate. Currently, we are thinking of in the range of 6%. As for the acquisition financing, you have to note that there is a bit of a differential compared to corporate bond rate, but it is not that much different from the market rate.

This is [ Kim Jin-ho ] from the Monomer Division. You talked about the BD propylene, there was a great price increase by about $300 to $1,200 and compared to the other downstream business -- the products, we expect the price recovery for the ABS product to be the greatest. And by region, we think that China is coming on strong compared to the other countries in the region. So we do expect that recovery will take place in the downstream side from China. And that was BD. And as for propylene, it increased by also about $100. The propylene price was increased by about $100 per ton, and this is leading the price growth in the propylene business in China. And there are some limiting factors that restrained the supply of PP, because in China, the PDH utilization rate was adjusted. So we do expect the PP to also grow in price. I'd like to talk about the possibility of turning to a profit in the Q2. As you may already be familiar with our business structure for Base Chemicals and LC Titan, we have heavy reliance on the naphtha crackers. So a large portion of our business is highly synchronized and were dependent on the naphtha cracker. So to ask about breakeven or when we will turn profitable or make a loss, that would be difficult to predict at this point in time because of high volatility even by a small change in the situation. As I mentioned before, in Q1, we are seeing positive signs, and after March, we will be having the second quarter, and this is a high season due to seasonal factors. And so unless there are some macroeconomic one-offs, we believe that the second quarter will be better than the first quarter. But it is difficult to tell how fast the recovery will be made, because we have to also look out for the utilization rate of the other competitors. On a consolidated basis, we also have to look at not only the naphtha cracker-based businesses, but also the Fine Chemical and also the ethane based LC USA and Iljin Materials, which will join the consolidated -- which will become a consolidated entity soon after the acquisition is finalized. So we will have to take all these into consideration. Also the Advanced Materials business will be having its high season coming -- in the coming quarters. So you could have -- so factoring in these businesses and also the naphtha cracker-based businesses, you could figure out -- you could -- I think you could do the math.

We will conclude the earnings conference for 2022 full year and the fourth quarter. Thank you very much. And we'll be uploading the materials on the website and please contact us if you have any additional questions. Thank you. [Statements in English on this transcript were spoken by an interpreter present on the live call.]