Naturgy Energy Group, S.A. (NTGY) Earnings Call Transcript & Summary

Good morning. We welcome you to the Naturgy First Half '23 Results Presentation Conference Call. [Operator Instructions] I will now hand the conference over to Ignacio Jimenez Carrasquilla at Capital Markets. Please go ahead, sir.

Good afternoon, everyone. This is Ignacio Jimenez speaking from the Capital Markets team at Naturgy. Thank you for joining us today for the presentation of first half 2023 results. Next to me is our Executive Chairman, Mr. Francisco Reynes; our Head of Financial Markets, Mr. Steven Fernandez; our Head of Financial Planning and Control, Mr. Jon Ganuza; and our Secretary of the Board, Mr. Manuel Garcia Cobaleda. You will understand our management has a quite busy agenda today. So, we will need to stick to the scheduled time for this presentation, which is 1 hour. We will start going through the presentation and continue later on with the Q&A session. First, we take questions online and then we will finish in with those submitted through the webcast that have not already been answered. With that, now I hand it over to Steve to start with the presentation.

Thank you, Ignacio, and good morning, everyone. We'd like to start off today's presentation by focusing a little bit on what's happened over the last 6 months, beginning with the demand evolution in the main markets where we operate and where we can actually see a mixed demand across those markets, with declines mainly happening in Spain and in Brazil. It is worth highlighting Spain, for example, that we have had a very mild winter and this has had a negative impact in terms of gas demand. But in the case of Brazil as well, it is also worthwhile reminding you that last year, at least H1 of '22, was a very wet period and this year, in particular, actually was a very dry period. And this year is very, very wet, which means that there is a lot less gas demanded for electricity generation and that explains that decline. If we move over to the main evolution of the energy markets, we can also see a decline in most of the indices that we follow. You can see the Brent, the TTF, of course, the Spanish electricity market. This is a function of a number of elements. On the one hand, we do see weak demand across some of the key regions, for example, in Asia that's having an impact in terms of the commodity prices, as well as, as I mentioned previously, in some of the markets where we operate mild weather conditions, which have also affected the overall prices. On top of that, it is worthwhile reminding you that last -- the first half of 2022 was also highly marked by the war in Ukraine. And what we are seeing right now is a more of a normalization of prices or a resumption of normalized trends. If we move across to FX, what we have seen is basically all the currencies in which we operate have appreciated, albeit moderately, with the exception of Argentina. As a reminder, in Argentina, this is a year-end figure, not an H1 figure as a result of the hyperinflationary economy that it is. Overall, the impact of FX on the results has not been particularly high, so we could say almost negligible. So with that said, if we move over to the consolidated results, first point that we have to remark is EBITDA growing by around 39% to shy of EUR 2.9 billion with a net income of around EUR 1 billion, up 88%. We have also spent quite a bit of effort investing in the companies we have. So, our overall CapEx has grown to almost EUR 850 million, up 16%. And on top of that, the net debt of the company has been reduced by 11% to a level of EUR 10.7 billion. I think, when we look at these results today, we can say that they are very solid. It's been a very solid first half of the year. Indeed, that net debt reduction that I mention previously is supported by a strong cash flow generation across the board and it puts the company in an enviable position to continue investing and looking to the future to continue deploying its cash for the '23-'25 period. It's true that these results have been marked, nonetheless, by a lower demand as we previously examined and a decrease in enterprises, which makes them more remarkable, if we may. Finally, a quick word on the dividend policy. We are announcing today a EUR 0.50 dividend that is payable on the 7th of August. And this is part of the new revised '23 to '25 dividend policy of EUR 1.40 per share, which we'll detail a little bit more in a later slide. All in all, the markets businesses, so that will be markets, all contributed around 57% of the group's EBITDA. Networks and renewables, if we combine them together, contribute around to 85% of the CapEx, that is a testament of the group's great effort to invest in the energy transition and I think it comes through with these numbers. And as you'll see later on in the presentation, this is going to be a trend that is going to be sustained in time. In terms of cash flow, the strong EBITDA results, coupled with a change in working capital of almost EUR 1 billion as a result of the moving prices have allowed us to significantly reduce the net debt level position as of the first half of the year. And in fact, when we look at it from a metrics perspective, I think it's worthwhile understanding that net debt to EBITDA has moved from 2.4x as of the end of last year to around 1.9x today. We are still in a very good position with the gross cost of debt increasing to around 3.8%, which is roughly the level where we expect the year to close. And this does not fully recognize the strong remuneration that we're getting from our cash position, which hovers somewhere between, depending on the instrument, 3.4% and 4%. Fixed rate levels are around 79%, so roughly unchanged relative to where we were at the end of the year. So the company, again, is in a good position to offset the increasing rate environment that we have been seeing as of late. So with this, I'll hand over to Jon to go over the performance by business units. Thanks.

Okay. Thank you, Steven, and thank you all of you. First of all, starting with Network Spain. So the Networks Spain EBITDA has decreased by 9%, and basically it has been in the case of gas distribution in Spain due to lower demand. So, well, now I think it works. We had a small technical glitch, the things of going live. But, well, you appreciate that also going live has some advantages like the Q&A, so you do please have some level of understanding. And in gas distribution, it was mainly due to lower gas demand that we had on the one hand due to a milder weather and also industrial consumption was lower due to the higher gas price environment. In the case of electricity distribution, although we also did have a lower demand, that did not impact on the level of EBITDA that we had. And basically, the lower EBITDA was due to the lower remuneration on the incentives and on the O&M payments that we have. In the case of Networks LatAm, our EBITDA was 33% greater than it was last year. But here we always have to take into account, first of all, that last year we had the negative effect of TGN, the provision that we had to do last year that it was almost EUR 100 million on an EBITDA basis, although on a net profit basis, it was almost EUR 200 million. In all of the geographies, we have seen an improvement in the demand, except in the case of Brazil, as Steven has already explained. But since the lower demand that we had in Brazil, it was in generation, the impact that it has in margin, it's much lesser than the one that it has on the overall demand. FX was relatively flat, except in the case of Argentina. But I think that the good news came on the regulatory front, or in the case of Panama, we already settled for the regulatory period until 2026, although we still have pending the regulatory period for Mexico and Brazil. In the case of energy management, I think that the first thing that we have to take into account is that we've changed how we reported. We have consolidated markets and procurement with the LNG business and further from now on is going to be reported as LNG & Markets. As I think we already explained in previous results presentations, we think that both results were highly entangled and therefore, showing them as different reporting business units, I think that it led to more confusion that actually it helped in order to understanding what was the underlying results of the businesses. And also, the second thing that we have to take into account is that as we already explained on the results presentations of 2022, the results have been affected by the hedging inefficiencies, which did have a negative effect in 2022, but are having a positive impact in this first semester. Actually, if we take into account this positive effect, actually, the results that we would have this year in LNG and [ marketing ] [sic] [Markets] would be below the ones that we did have last year. In the case of thermal generation Spain, basically, what we have is lower production, which has been offset by higher margins. And in the case of thermal generation, LatAm results more or less have been in line with the ones that we saw last year. In renewable generation, the results improvement has been really important. So, we've seen that the EBITDA has increased by 34%, but also the CapEx has increased by 29%. And this means that our installed capacity has increased by 7%. In this case, it does not reflect yet the Ardian operation because it has been closed after the closing of the semester. And in this sense, I think that we have good news to convey to all of you is that this operation has been finally approved by CMC. So, this operation has been completed. And in the case of the production has also severely increased, also not only due to greater installed capacity, but also because the hydro production this year has been almost 100% greater than the one that we had last year. And finally, moving to supply. In supply, I think that it's good to remember that last year, we had a really lackluster first semester, mainly due to the fact that in electricity generation, we had a long [ sell ] fixed price position, which was -- had generated losses in an environment where the electricity prices had increased. And also in the case of gas because we've had fixed price contracts that did not accommodate to the increase of the gas prices that we did have in our gas procurement contracts. The situation has been improved as we have been able to equilibrate our selling and procurement positions and also as we have been able to renegotiate and renew most of our sales and procurement contracts. And with all this, I will hand it back to Steven.

All right. Thank you, Jon. So as a brief summary and conclusion of the 2023 first half results, we'll start off with -- you may remember, last February when we announced the expectations for the year-end and figures in terms of EBITDA. They should be at a similar level to 2022. And as a reminder, those numbers last year were shy of EUR 5 billion. So as a result of the performance thus far for the company, we now expect EBITDA to exceed EUR 5 billion. Now, we have to be mindful of the fact that we previously hinted the reality of the commodities market still being volatile, and we've seen it. We have it in one of these slides. There's quite a bit of movements. So that makes it very difficult to land the final number. But we can say with a high degree of confidence, the EBITDA for the full year is going to exceed now EUR 5 billion. So, that's an increase relative to what we initially expected at the beginning of the year. This is on the back of what we expect and we have seen a solid first half results for the year. Continued net reduction in the first half, this trend moving over to the second half of the year should see -- should be somewhat reverted as we ramp-up on investments, and we step up on our dividend. Also recognizing, as Jon mentioned, that the figures that we have presented for the first half do not include the EUR 650 million payment for the wind assets that we recently bought. We expect the company to continue focusing on the energy demand that we're going to be experiencing over the next few quarters and the next couple of quarters. I don't see what the expectation there is going to be, but we expect it to pick up somewhat from what we've seen in the first half of the year. Finally, we will continue delivering on the dividend that we announced. So the EUR 0.50 that we have announced payable today -- on the 7th, there is still going to be another EUR 0.50 by November, more or less, and the Chairman is going to go into more detail about that. So all in all, a good solid set of numbers for the first half of the year, which kick off a good starting point for the delivery of the '23-'25 plan. That is a continuation of the '21-'25 plan that we announced in July of 2021, which the Chairman is now going to explain a little bit more in detail.

Thank you very much, Steven, and thank you, Jon, for your explanations. I think that it makes sense after what we heard to make a brief overview of what has been done by the company in the last 5 years and also updating our strategic and financial targets for the next coming 2 years and a half. If you allow me first to go back to June 2018, when we established our figures for the next 5 years at that time, I can tell you that the team has been working hard. The conditions under which we have been working were not the best. Remember that during the year 2020, we suffered the pandemic. During the year 2022, started the Ukraine war. But including within this environment, we can proudly say that the work of everyone has been conducted in the right direction in order to achieve -- even to increase the level of deliveries in the main targets that we set up in June 2018. We established 4 important measures. One was EBITDA, the second, CapEx; the third, efficiencies on annual OpEx savings. And finally, in terms of net debt, as you can see in the slide shown now, all these targets were exceeded, confirming that the company is prepared to commit and also prepared to deliver. If we move now on what happened since July '21, when we came to you and explained where we're going to be our targets for the next 5 years. At that time, different conditions we were having in the market compared to what we have today. No doubt that after the Ukraine war, many plans have been reoriented and some other key measures have been taken by both, the European Union and the US, the REPower Europe and the IRA in the United States. We had changed completely the environment. Many regulations were incorporated during that period. Energy supply has become part of the key fundamentals of our industry and for the society in general. Inflation has come back and together with inflation, higher interest rates, which are changing the macroeconomic panorama for the next coming years. Clearly, the energy scenario have shown a level of volatility much higher than we were used to. And finally, trends towards self-consumption and swapping different sources of energy has been incorporated today in an equation that didn't exist before. I may list others on top of that, but we thought that were enough to make a very clear review of our commitment with the horizon of 2025. First, we have updated the scenario. The scenario on the energy, which is affecting us, not only some of the businesses that are clearly impacted by the figures, but others that may have its consequences in increasing or reducing demand and in swapping from different sources of energy. Together with our regular sources of information, we have adapted the new scenario for the figures I'm going to show. And in order to maintain our level of transparency with all of you, we have incorporated all these different figures in the slide that you have in the presentation. Second, we have incorporated and wanted to highlight again the role that the company is prepared to play in this new scenario. Our role, we based on 3 main pillars. We want to maintain security of supply as part of our cornerstone of our strategy. And that's the reason why we continue maintaining a diversified portfolio of sources of energy, gas and also for generation of energy between nuclear, combined cycles and our big bet on renewables; hydro, wind and solar. We want to be more sustainable, which is the second part of our equation. We don't see any future in our industry without reducing step-by-step the footprint of our CO2 emissions. And that's the reason that our plan incorporates a target that by 2025, at least 50% of our capacity will be produced without emissions. And finally, we are also committed to make our services more affordable for all society. This is the reason that just 6 months before the [ excepcion en America ] was introduced in the level of fixing prices in the market. We, Naturgy, led the market by incorporating a different type of tarifas compromiso, commitment tariffs, that were clearly going ahead of the different trends within the industry in a demonstration that our business pretends to be long-lasting, and therefore, our clients and our customers should feel proud of being supplied by our energy. The reality is that our vision remains quite intact because within that, Naturgy is well positioned to support the energy transition and to contribute and balance a solution for this energy trilemma. If I would need to highlight the most important things that we are prepared to confirm in our strategy, I would say, 3 pillars. Number one is be aligned with the energy transition, respecting our past and thinking on our future. In this sense, one of the most important thing is that our investments will be mainly based in the renewables part of generation of energy and the adaptation of our grids, networks of gas, grids of electricity. The second part of the story is about operations. Operations requires being efficient and also requires a certain level of technology leadership. In this sense, efficiency and digitalization form a part of the same equation. And we are clearly committed with our clients that they will take benefit of all these different action plans behind and aim to be best-in-class. And finally, sustainable capital allocation. Since day 1 by -- during 2018, we have established as part of our strategy, our financial discipline in investment policy. We continue having that. And that's the reason why we have reviewed all the list of potential investments and we clearly erased those that were not mixing our targets of profitability. It is not that we try to reduce the level of investment. It's just because we want to invest to create value. And this conclusion, it will be forming part of the figures I'm going to show now. In terms of CapEx, we have a commitment to be for the next 3 years of around EUR 10 billion of investment. As you can see, this EUR 10 billion of investment are forming part of the EUR 13.2 million that were defined for the period of 5 years, and this EUR 10 million are belonging to a period of 3%. Main objectives of this investment planning is, number one, renewables, mainly generation, including renewable gases. Second, networks and the rest of the businesses and in particular, the maintenance of the rest of the business as it could not be in a different way around. EBITDA today compared to what we had in 2022 may have ups and downs. Clearly, the scenario is going to affect for the next 3 years as we -- as has been described before by Jon Ganuza, which I will give him the floor to explain more in detail this bridge, but as a consequence of 2 important things. Number one is the development of our regulatory agreements with regulators in Latin America; and second, the speed of investing in renewables. We are going to compensate this new scenario that we have in front of us, more realistic, less aggressive and more stable for the next coming years. I would probably give now the floor to Jon, you can explain little bit more detail what's the bridge we have in front of us, Jon.

Okay. Thank you, Francisco. So, I think that one of the key things and one of the good key questions that might be on everyone's [Technical Difficulty]. So looks like technology and me are not on the good footing. But, well, okay, let's see if this works. I think that the figures are more consistent at our technologies. And on the one side, I would say that how feasible and how challenging are the new or the revised figures that we've set for 2025. And I think that what we've tried to give here is something that is sensible, and I want to try to explain how [ level has been ]. So Networks Spain, let's remind that in the next 2 years, we still have to factor in almost EUR 100 million of negative regulatory effects for the period 2021-2026. So basically, what we're doing is through activity, increased activity and increased efficiency, we are making up for the regulatory to a -- negative level to the impacts that we have in gas distribution. In Networks LatAm, in 2022, we did have the negative TGN effect in 2022. And the figure that we're aiming for in 2025 is basically the same figure that we expect to have this year, and that is after having resolved all of the regulatory periods that are still pending in Mexico and Brazil. In the case of energy management, the decrease that we have almost EUR 0.5 billion compared with 2022, that reflects basically the fact that some of our long-term cash procurement contracts are going to end, that also factors in the energy scenario that the Chairman has previously presented. And also in the case of CCGTs, we also see that the production is going to be reduced as the renewables penetration in Spain is going to increase. Renewable generation, we do see an increase of almost EUR 0.3 billion, and that's basically the reflection of the extra 10 gigawatts of installed capacity that we will see in the period. Renewable gases, we think that if there is no change in the current regulatory status, we will see a negligible impact in results but we see that much more an upside than anything else. And I think that -- in that sense, what we've seen in the [ Penny Act ], the draft of the Penny Act was published by the Spanish government this last few weeks, we do see that this goes in the right direction, though, the ambition we think that it should be greater than the one that is. And in supply, more or less, we see that the results would be in line with the ones that we are seeing this year, though, we think that the contribution from PV distributed generation, it would be one of the levers that would allow us to improve our results in 2025 compared with 2022.

Thank you, Jon. Hopefully, it has been enough for the attendees to understand. But as you said, we may probably have other questions in the Q&A part. If I follow with our capital allocation, I would like to highlight 3 important ideas. First one is solid cash flow. It is going to be the main source of our users, mainly driven by solid hypothesis, non-aggressive and as Jon has said, clearly compensating upsides with downsides and with still other upsides to incorporate if they come at all. The level of debt that is increased during the period is low enough to be clearly on the safety side regarding rating agencies -- rating agencies level. Second message is clear compensation between CapEx and dividends. This form part of the same story. This is a clear remuneration for our shareholders with a long view investment, CapEx and with a short view, cash collection, dividends. In this sense, you can see that 2/3 of our users are clearly focused on increasing our CapEx, therefore, investing for the future and 1/3 on the dividend side. Point number 3, a review of the dividend policy. Back to July 21, we highlighted that by mid-'23, we were going to review the dividend policy for the period depending on the results we may have had in the last 2 years. Now is the time. And at that time as well, we fixed as an average 85% of payout ratio for dividends in the period. The EUR 1.40 that we are announcing today is clearly based on these 2 commitments; the commitment of reviewing and the commitment of the 85% payout for the remaining period. All in, these are our best estimates for the year 2025 that are reviewed compared to the originals that we presented in July '21. Growth in EBITDA, growth in net income, same level of CapEx, just erasing those projects that were not performing or they are not achieving the minimum target of returns, high dividends, less debt and maintaining FFO net debt ratio that for the rating agency is a security of remaining at the same level of rating as of today. Thank you very much then for this first part of this presentation. And I will hand over to Steven to conduct the second part of this presentation.

Thank you very much, Mr. Chairman. I think we are ready to take live questions from the conference call. So, we do ask please that you identify yourself and the company for which you work. And as a reminder, the press should refer their questions to our communications team. Thank you.

[Operator Instructions] Our first question comes from the line of Jose Ruiz from Barclays.

I just have 2. First of all, regarding the target of EBITDA above EUR 5 billion, how much are you including of reversal of the provision? Second question, in terms of hedging 2024, how determinant is what gas prices do in the second half of this year in terms of commercial activity?

So thank you very much for the question. We are not disclosing yet the figure regarding the inefficiency of the hedging. So therefore, we are not going to give exactly which is the figure that is included in the guidance that Steven has given regarding 2022. And regarding the hedging of 2024, I can say that for the -- our LNG gas procurements, the level of procurement of hedging that we will have next year is more or less in line with the one that we have this year.

Next question, please.

The next question comes from the line of Javier Suarez from Mediobanca.

First question is on the capital -- on the CapEx guidance. During the presentation, the company has mentioned EUR 10 billion of CapEx during the next 3 years. That means a significant acceleration for the level of annual CapEx that the company is implementing as we speak. So, can you help us to understand how the company intends to accelerate so significantly CapEx versus history and versus recent delivery? That is the first question. The second question is on the bridge of EBITDA between 2022 to 2025. I think that putting a long story short, we can -- the message is that the company is going to invest more on renewable energy and it's going to extract more value and growth from that activity and that is compensated by the decrease in the energy management business because of the normalization on energy prices. So is it fair to say that you are considering that the profitability that you have seen on that energy management business in 2022 and probably 2023, you're assuming that is going to be sustained at least by 2/3 by 2025? Is that the thing that you are saying? I'm referring to this because the profitability in the last 2 years has been in excess, significantly higher than what history is telling. And you can elaborate on why that assumption should be seen as conservative enough. And then the final question is on the cash flow statement, that is a question on the positive contribution from working capital that we have seen during the first half of the year, if you can help to understand the reason for that and what you are expecting by the year-end?

So thank you very much, Javier. The first question regarding the CapEx guidance, it's true that we see a level of acceleration, but I think that one of the messages that we've tried to stress in the past is that what has happened with our renewables investment is not so much that we have canceled it. It was that we had to rebalance it, that we had delayed it. We all know that this past 1.5 years, 2 years, they have seen a substantial increase in the unitary CapEx of renewables. So that means that in order to be compatible with the strict financial discipline that we have, what we have to do is we have to work with the existing projects that we have, be it either with the PPAs, renegotiating them or either renegotiated in or redesigning them. So, what we've seen is basically that a substantial part of our projects have been delayed. And we think that these projects will be or are already built. And that's why we think and we are confident that in these next 3 years, we will be able to deliver the level of CapEx that we have announced in the revised and the reviewed strategic plan for the next 3 years. Regarding the profitability of the gas business, I think that, actually, what we're seeing is that already this year, the profitability of the gas business is almost the same as last year, as we said, if we take outside at least in the first half of the year. And if you remember in the bridge, what we showed it was that the results were going to be almost EUR 0.5 billion lower than the ones that we saw in 2022. So, yes, we see that with the normalization of the gas prices, the margins will somehow decrease and also the volumes that we're going to have, they're going to be lower. But I would also like to point out that last year, when the prices started going up, we were not necessarily reaping all of the benefits that we should be reaping because part of our business -- part of our sales contracts were indexed to gas prices that were much lower than the spot gas prices. So, I think that the overall picture is not so clear seeing that it has been a huge increase, and it's going to be a huge increase. I think that there was a bit of an increase last year and what we will see is that, slowly, we will see a reversal to the normal in the next few years. And regarding working capital, working capital this half of the year has been substantially lower than last year, but also is because the overall revenues that we had have been substantially lower. I think that by the end of the year, still remains to be seen, but we think that maybe will be not so as positive as we've seen in this half of the year, but it should be at any rate positive.

Is there any additional question online? No?