PAO TMK (TRMK) Earnings Call Transcript & Summary

Ladies and gentlemen, welcome to the conference call of TMK regarding the first quarter financial results of 2020. At our customers' request, this conference will be recorded. [Operator Instructions] May I now hand you over to Vladimir Shmatovich, who will lead you through this conference. Please go ahead.

Good afternoon, and good morning, ladies and gentlemen. Thank you for joining our conference. We all hope that you're all doing well because these days, the state of health of people, we believe, is beyond the financial results, and so wish you health and wellness. So TMK today announces its first quarter results, consolidated IFRS. Before I start on the highlights -- and by the way, as always, with me today is top management team. Most of them, obviously, are remote due to regime for COVID-19. So before I start on highlights, a couple of things that new and have to be taken into account, a lot of it in this press release. First, the company decided to switch to Russian ruble accounting, which we think makes sense because Russian ruble actually has always been functional currency of Russian division, which is now considered the large majority of the business. And so it makes sense to report in rubles. And besides that, the fluctuations that used to happen to our numbers, especially all kind of change, differences that affected net income are now less, thanks to this switching. They still exist, but they are of a smaller magnitude. And for example, you can notice, we recorded a considerable net income, thanks to this change. Secondly, structure wise, we provide, obviously, comparison to first quarter 2019 and fourth quarter 2020, when we still had our American division in our books. We decided not to cleanse it. I mean, the prior periods because you're used to those results, those numbers. So we compare today's numbers to 2019 numbers, but straight. But you have to bear in mind that 2019 numbers, they contain the results of U.S. division. But we thought it's a better format because you hold or you make hold, in case, stock regardless whether IPSCO is in there or is not in there. It's still stock, and it's value. So to results. Under the circumstances, we think that results are reasonably okay, although the numbers are down both on revenues and EBITDA side. For example, revenue down 33% year-on-year, 21% quarter-on-quarter. But first of all, on the revenue side, we see impact of our American division. Less so on the EBITDA side because the performance and EBITDA of U.S. division was declining by the end of the year because of the anticipated sale, the division was not able to solicit sales and profits. So EBITDA, as I said, dropped as well. So down 24% year-on-year and 22% quarter-on-quarter to RUB 8.7 billion. And by the way, for convenience, I probably wouldn't want to repeat any number in U.S. dollars although, I guess, you may need some time to get used to it. But just to be consistent, since we switched to rubles, I'll refer to rubles. But for your convenience, average exchange rate. So for P&L and cash flow items is 66.38, rounding up. And end-of-period exchange rate for balance sheet items, 77.76. So for your convenience, you can divide the numbers, if you still want to see the dollars. And speaking of quarter-over-quarter EBITDA decline, it was due mostly to macro environments in Russia and Europe because U.S. EBITDA was already sort of negative in the fourth quarter. Having said that, the margin, EBITDA margin stayed okay. It stayed at 16%. So it's up compared to 15% in first quarter 2019 due to better product mix and lower raw material prices. So we tried to keep on producing more high end, more profitable products. We see a considerable reduction of net debt to RUB 108.6 billion at the end of the quarter. And needless to say, major factor was the close of IPSCO sale. And we discussed it a number of times during annual results, so I'm not going to repeat the numbers. But as I was saying while explaining to you, annual results, the impact on financial statements we could see in the first quarter, and now we do see it. So and that helped improving net debt-to-EBITDA ratio, which is now 2.62. Speaking of major developments. Again, we announced successful Eurobond placements back in February. And we're saying at the time that the intent was to refinance the existing Eurobonds, which we did, which happened after end of the first quarter. So you can see a buildup of gross debt on cash, but we've done it. So we did it in April. So the old eurobond was successfully redeemed. And now we have a eurobond at 4.3% interest rate for 7 years this time. So another major development, obviously, was buyback, which our Board approved and our subsidiary, Volzhsky Pipe Plant is conducting. So the Board approved these terms on April 8, and now have received all the necessary approvals from regulators. The buyback is actually happening, so any shareholder can now tender. It's ordinary shares and GDR holders are welcome to cancel their GDRs and get ordinary shares. A very detailed instruction how to do it with is on our website in the big press release issued and all related documents, so you're welcome to visit it and visiting the Q&A related to that. And we already explained in a special call with investors that given the current state of events, the publicity and especially [indiscernible] is no longer the priority for the company. And basically, the offer is for all outstanding shares other than the majority shareholder and certainly that affiliated entities and people. So basically, the offer is for all the [indiscernible], and we feel comfortable purchasing as much as possible. So these programs started. And the very last day when the shares can be tendered is July 27. And the cash settlement will happen very quickly after that, I think, within 4 days or so. So that's basically the thing. They -- obviously, the issue was very carefully examined by the Board, by independent directors, and they expressed their position, voting actually twice for this program. And the price, just to remind you, is RUB 61 per owner share, all in cash. Besides that, we placed Russian bonds, again, raising financing as necessary. A RUB 10 billion Russian bond was issued, its actual maturity of 2 years. But as you are aware, there's a way to keep the Russian bonds in the market. And coupon was set at 8.35% to semiannual coupon. So these are major events. In terms of highlights, the -- basically, we can see that now the results of TMK predominantly dominated by Russian division. And Russian division is doing better than European division because in Europe, the effect of the virus started showing off earlier, even back in February or so. So the first quarter was already heavily affected, in the negative EBITDA for European division. Therefore, the Russian division numbers are somewhat better than average company numbers, thanks to that. And that's reflected in revenue, which is down only 10% year-on-year, for example -- and 10% quarter-on-quarter. And the EBITDA margin, for example, Russian division is higher. It's basically 17% as opposed to the company's 16%. However, the overall trends, of course, are the same. We see decline in demand. So the key reason is volumes. We're trying to keep up the good mix and pricing. And again, reduction in pricing being somewhat offset by reduction in raw material price, but lowering the volumes affected the number of [indiscernible]. As is the case, I guess, with all the oil and gas servicing industries. However, without going deep into the numbers, we should say that Russian market and obviously our results, looking at previous crisis, were somewhat more resilient to global crisis triggered by oil price drop than other regions. So we hope that's going to be the case again. However, we do not know yet exactly how the Russian oil and gas companies would adjust to both low oil prices and OPEC+ deal. The reduction of production has to be quite swift, and then which way rational oil and gas companies would choose to go and how this would affect drilling in 2020 is yet to be seen. So the different scenarios and some scenarios are not as catastrophic where drilling continues. Some scenarios point at lowering drilling, but [ still can not say ] who will follow me will talk in details about that. But speaking of us, we still feel strong because we have raised this Eurobond and Russian bond and have certain cash on the balance sheet. As you can see, so we are positioned to obviously survive this crisis and do our best to improve our efficiency and look forward to the rebound. So in terms of debt structure, basically, today, the hard currency part of debt is down. It's less than 1/4, it's almost 1/5 actually of total debt, which, again, brings more stability in terms of nature of hedging to the total situation. And the average interest rate is down as well to 6.61% blended. And the share of short-term debt is also quite acceptable, about 26%. So we tried to secure as much as we could, our financial position, in these difficult times. So at this point, I will pass the word to Sergey Alekseev, our Chief Marketing Officer, who will speak about the markets. And then we'll go to questions and answers. Sergey?

Thank you, Vladimir. Hello, ladies and gentlemen. To begin with the Russian market, traditionally, the metrics of Russian market. So the Q1 2020 compares to the first quarter of 2019. The Russian market declined, the overall Russian market declined by 11% year-on-year. And it was mostly driven by lower consumption of large diameter pipe. The situation with the OCTG Pipe was also not so favorable and also faced some slowdown in consumption. But the share of horizontal drilling was quite stable year-on-year and steady level of 51% for the first quarter of 2020 compared to the same quarter, in the first quarter of the previous year. And as for the compares of the current quarter to the fourth quarter of the previous year, so the market declined less. It was just only 7% compared to the same period. And it was also driven by lower large diameter shipments of the plant as the major projects they -- we finished. So the situation is mostly driven by the lower consumption in this area. But the OCTG market also declined and dealing volumes also decreased. And the share for horizontal drilling practically stayed at the same level, 3% lower, but it was, let's say, new record in the first quarter of this year. So things like this. As for the OPEC+ related deal, I think it's very important for the industry. It's very important for oil and gas companies. Our major, I would say, clients of TMK in Russia, and around the world as well because the main reason is growing the market to make it stable. And nowadays, for the customers, it's more important to understand how they will overcome the current issues with the crisis, with the reduction of production of oil. But I would say, again, the balance in this market is more important than the other things at the moment. And I think that current pricing go up for the oil is reflecting that we are reaching the balance. As for the, let's say, Russian markets, traditionally, and according to our experience at the previous crisis, we do understand that Russian market is more resilient for the, I would say, global volatility. And despite the volumes which must be cutted for the Russian companies, I could [indiscernible] We do expect that it will be not so huge, according to the volumes, how much they have to reduce in oil, I mean, in the volumes of drilling. As for our strategy for the energy tubulars, we are going to keep the market share in the key segments and, for sure, increase our market share in the all available market segments when we are speaking about the premium product. By the way, we have gained the market share in the first quarter of Russian premium market more than 80% the first quarter of this year. We also understand that we have to change some of our priorities in our strategy, especially for the foreign sales. And nowadays, we understand that our core focusing markets could be, for example, the great projects for the gas and in the regions, which are also resilient for the current condition as well as we are also trying to find the middle markets for our products. We do keep the range and the availability of our products for our customers. We supply more premium retailer solutions, along with the services, which we are doing for our key customers and new customers as well. And I think it's also important to note that in nonenergy sector, we also do a -- let's say, things in our sales strategy. We improved our sales strategy, our marketing approach. We are leading supplier through our e-commerce platform through TMK eTrade, and we also increased the share of products which didn't sell to the regional market, nonenergy products from the first quarter of this year compared to the previous year. We also do a lot of work with the win-win strategy sales with our distributors to, let's say, make more efficient sales in the market. As well as we also provide very quality solutions and services for our customers like completing the sets of [indiscernible] And as I said before so, we would like to be more customer-oriented in this, let's say, challenging period of time. But we do expect that the industry will overcome the crisis and our main strategy to be the provider of premium, high technological solutions for the industry, not only for oil and gas but also for nonenergy sector, is quite right in the moment. I think I'm done. Vladimir?

Thank you. Thank you, Sergey. Thank you for this market update. So now we open our floor for the questions.

[Operator Instructions] Our first question comes from Sergey Beiden, Renaissance Capital.

Yes. I just have one question. Given what's happening on the American market, and if I understand, you still keep some export to America. Could you clarify approximately what kind of share you had in export to the U.S. in the first quarter of this year? And do you see any kind of changes in that number in the second quarter?

Thank you for your question. In fact, although we do have exclusive distribution agreement with Tenaris. As you all know, we, I guess, both -- well, first of all, first quarter had some allowances to start the program since the deal just closed in January. And then Tenaris had to integrate IPSCO in its organization. So that was a special provision for that. So not much actually even could be ordered. So some orders already came and shipment happened. But I should say that the share of this shipments and overall U.S. consumption, even drop in consumption was really negligible. It was just one ship and the conditions were obviously not very appealing, so to say for us. We'll see how the situation develops. And obviously, of course, taking into account overall decrease, if not collapse of the U.S. market, still the market will be there. Since it was the world's biggest market, maybe it will still be. And given the Russian ruble softening, our competitive position is relatively better for this sector. So we think that the market share will rebound. But for the first quarter, it just makes some sense talking about percentage because it's just negligible. But that was on purpose because on both sides, the parties were not trading for big shipment.

Next question comes from Tim Riminton, Barclays.

So could I just ask for a little bit more insight into what you're seeing so far in Q2 in terms of sales volumes? What sort of products you're seeing demand for and where you're seeing weakness? And could you talk a little bit more about how the latest -- how you expect the latest OPEC+ agreement to affect your business for -- assuming it stays in place for the remainder of the year?

Well, the -- obviously, the second quarter is -- it's middle. So it's probably premature to provide guidance for the whole quarter, but we do see certain further decline in demand. So far, it's not dramatic. And we do hope that the decline in consumption of primarily casing pipes and of drilling because that's direct proportion, would be less than oil production cut, which at the moment, I mean, the very current moment, has to be 18% or so. Then it will have to go back in the OPEC+ deals. So average decline of production will be about 10%. Now how would the drilling and pipe consumption correlate with oil production is still unclear because they will have option either simply decrease the flows from existing wells, and they can do it primarily on the new wells with high flow rates in primarily new fields like Eastern Siberian fields, for example. Or they can do something with their old wells, and the old wells regulating the flow is more difficult because if the well is shut down, then it may never recover. So what they would choose remains to be seen because if they choose -- and the third option is to basically reduce drilling. So that's 3 options they have. And as I was saying at the beginning, some options -- if they choose to reduce the flow from greenfields, and let's say, shut down the old wells, then that gives good perspectives for new drilling because, as I said, OPEC+ deal allows Russian producers to gradually increase the production after the initial drop. But it's too early to say what kind of strategy on the average the oil companies would choose. So we have to see. So far, we don't see a dramatic drop in orders, but we do see continuation of negative trends in the first quarter. That's how I would say. At the same time, there are some bright spots like gas, for example, which is not part of OPEC deal. And we do see some, let's say, some stronger demand from gas producers compared to oil producers. And for us, again, it's good news because OCTG for gas, I mean, vast majority of them are premium connections because they had the biggest pipe at least. So that's a good news. Also [ to compensate ], those were not part of OPEC deals, so we may see some maneuvers by oil companies. So we do hope that the drop in demand will be not as dramatic as drop in production. But again, at this point, it's too early to say. So I think we'll have more visibility and information by the end of second quarter to see how it goes.

Okay. And just if it does look a bit weaker through this quarter and into the second half, what approaches can you take to look at reducing costs? Or can you look at cutting CapEx? What sort of reserve measures, sort of as a plan b, do you have if things are a little bit worse than you're anticipating?

Sure. Sure. We -- we do have in plan B. Actually, it's still being developed, being underway. And we -- although first quarter CapEx is actually, we turn it into U.S. dollars, because I'm sure I think it's not far from -- it's somewhat south to $50 million, which suggests sort of rate of south of $200 million for the year. But even with assuming neutral impact of well, exchange rates still would also help. If we're talking dollars, okay? Would help reducing this number because the average exchange rates, let's say, 66.38. So annual leverage probably will be higher in terms of soft ruble. But that's not the main thing. The main thing is that we do have a plan to significantly reduce CapEx and this plan is yet to be finalized during next 2, 3 weeks, but the reduction will be quite, quite large. So it will be far, far below the [ $200 ] million, probably below [ $150 ] million. So -- but that's doable because we were saying all the time that CapEx does not have companies below [ $100 million]. So yes, we do have plan b. And still, the drops in volumes, of course, are somewhat painful, but still the portion of variable cost is still high and the steel prices will also go down. So we think that will help us partially offsetting that.

[Operator Instructions] Our next question comes from Anna Antonova, JPMorgan.

A quick question from our side. How do you see the current domestic market conditions working for you? I mean do you see increased competition from your local peers in terms of volumes or perhaps more aggressive pricing, given the market conditions? And what kind of weaker or stronger domestic competition would you expect going forward in Russia?

What competition did you say? I didn't get the objective. What competition, market competition?