RHI Magnesita N.V. (RHIM) Earnings Call Transcript & Summary

Hello and welcome to the acquisitions of Dalmia Bharat Refractories Limited Conference Call. My name is Alex. I'll be coordinating the call today. [Operator Instructions] I will now hand over to your host, Stefan Borgas, CEO, to begin. Please go ahead.

Thanks very much. Good morning, good afternoon, everybody. Welcome to this extraordinary RHI Magnesita update call. We're very happy to announce today the signing of the acquisition of Dalmia Bharat Refractories, which is one of the leading refractory companies in India. The acquisition is very highly complementary to our footprint in India. We have been talking to our friends at Dalmia for quite some time. It gives us much greater access to the industrial business, especially the cement sector in India where we were very much underrepresented until now. And maybe even more importantly, it gives us a real well-balanced production network in this fast-growing market where transportation cost is still a very big consideration. So with the network -- with merging the 2 networks together, we will have a really good benefit. The transaction is accretive to RHI Magnesita Group earnings because the consideration of 27 million shares of our subsidiary RHI Magnesita India is the main part of this transaction consideration. And the multiple of RHI Magnesita India is significantly higher than the multiples that we have paid for this business. What's the strategic rationale beyond what I've already mentioned before. You know that the refractory market in the whole worldwide is not growing, so growing for a refractory company is mostly possible through acquisitions. And as RHI Magnesita, we have highlighted this again and again over the past years, we've always said the major focus of our acquisition activities should be in markets in which we are still underrepresented, India being one of them, and we have been able to close this deal very closely after actually the acquisition that we announced a couple of months ago of Hi-Tech Chemicals, another refractory company in India. Now with this 3-way merger in India, we truly become the market leader there. So we're quite happy about it. The synergy potential is very significantly driven by the geographic locations, but also by the complementary product portfolio and by the fact that the Dalmia plants are utilized on average only 50%. So on the growth of the Indian market, this means that we have sort of preempted CapEx that we would have otherwise had to spend over the next year just to follow the market dynamics. Couple of details on the deal structure. As I mentioned before, the consideration is 27 million new shares to be issued by RHI Magnesita India Limited. The Board of RHI Magnesita India has approved this transaction on Saturday. This is our listed subsidiary. We have a Board run by an independent chairman and independent board members, of course. We will -- we RHI Magnesita Group will dilute our current shareholding from 70% down to 60%. So nothing fundamentally changes here, but we have a greater participation of Indian investors in the business. Dalmia Bharat Group and the Dalmia family will become a 14% shareholder now in RHI Magnesita India as a result of this transaction. So we also have a strong Indian family as a partner here for the midterm at least. We will fully consolidate the earnings of this acquisition into their group P&L, of course, into the RHI Magnesita India P&L, but then also into the group P&L. We will also consolidate an additional EUR 54 million of net debt that is residing in the Dalmia business. The assets we are buying, the business that we are buying delivered an EBITDA of EUR 12 million in the fiscal year '21/'22. So the current business operates already at a [ significantly ] higher EBITDA in this. And of course the growth potential in the Indian market is significant. And because of this [indiscernible] capacity, the growth profile here is very, very attractive, of course, the profitability growth profile. That -- as a result of this structure, the increase of gearing at the group level as a result of this transaction is relatively small, really marginal. We expect the transaction to close in the first quarter of 2023, if everything goes as expected, it should be in January. Synergies, we haven't made a detailed calculation of the synergies yet because we need so many people involved in this. But as you know, our internal benchmark or hurdle is that we will never do acquisitions that do not allow us to at least increase the EBITDA of the target by 50%. And this is largely the case here. And when I'm saying 50%, it's not the EBITDA of the last calendar fiscal year that you have in this publication, but it's the EBITDA of the current fiscal year. So the synergy potential is very, very [ large.] The EBITDA comes mostly from the growth in the Indian market, but it also comes out of an opportunity to further improve the whole operation of the RHI Magnesita Group. Production network, we can move some production into these plants, where capacity is available from high-cost places into India, where the cost is extremely competitive. What needs to happen before closing? There are a number of standard processes that need to be completed to finalize these acquisitions, such as land and permits, but there are no major approvals needed. We will do this in the next few weeks. In parallel, we're preparing the integration project and closings should then occur early in the first quarter of next year, if everything goes according to plan. And before I hand back to the operator and look forward to your questions, let me just make another short comment on the short-term outlook of the business. As we say we are very -- in the announcement, we are, of course, very happy to grow our business in India because India is really the bright spot at the refractory horizon. In other regions, this is by far not as present at the moment. We have indicated this already in our quarterly trading update at the beginning -- at the update of the third quarter trading. But the situation has accentuated into the same direction. In particular, in Europe, where the downturn now looks like it's going to be more severe than we have seen still 6 or 8 weeks ago. But also now some more weakness in the U.S. is happening and in Southeast Asia, outside of China and in China itself also. So the demand for next year will be quite a bit below the demand of this year, especially if we compare half year to half year, and we simply wanted to take this opportunity to make you aware of this also. What has happened on the very short term, quite a few of our customer orders have moved from the third quarter into the fourth quarter and from October into November and December and some of this might move into January. That means our attempts to reduce working capital will have dampened a little bit simply because we're not going to be able to collect the receivables in time this year, and that puts at risk our stated target of 2.4x net debt-to-EBITDA. And we want to take this opportunity also to highlight -- to make you aware of this situation. There's nothing fundamentally wrong with the business, of course, but it has to do with [indiscernible] cutoffs and was driven by a little bit lower demand and by postponement of orders by 1 or 2 months. We can still hit the 2.4x. It depends very much on customer payments and on shipment dates and things like that, but the risk is quite high that we might be a little bit higher than this. With that, let me hand back to the operator, and let's have a discussion about India.

[Operator Instructions] Our first question for today comes from Harry Philips from Peel Hunt.

Just a simple question, hopefully, on the transaction. In terms of the returns, you touched upon it, Stefan, in your introductory comments, but clearly, they are quite a long way below where the rest of India is, just looking at the accounts and the business as a whole. Going forward, how much of that is just sort of good practice to make those improvements? And how much is cost? And also just then the sort of as I understand the geography of the business is very different to where you are elsewhere in the country. So the sort of potential revenue synergies, will they exist as well?

Yes. So the cost synergies alone in this business, they come from transportation costs, transportation and other logistics. They come from network optimization, so we can shut down a couple of production lines in individual plants and then concentrate on other plants and then a bigger scale. And they come from SG&A cost reduction, and they come from procurement improvement because, of course, now we can buy together as one group. All of those will be able to be realized during calendar year 2023. And those together get us very close to the 50% or even higher than this. The revenue synergies actually go beyond this are -- on top of this, we're always discounting them because they're harder to achieve. And of course, at least outside of a region like India, they rely on really competitive dynamics. So we're more careful on this. But in this case, they are also quite significant because there are product lines that each of the other business didn't have before. As I mentioned, as an example, RHI Magnesita India has a relatively small industrial business, cement business. So most of the cement products that we sell are imported. And because of this, we're only in the very high end of the cement market. And of course, now with the knowhow that we have for cement, if we can combine this with the production footprint of Dalmia, we can add significant value to the Indian cement industry because we bring -- we can upgrade our customers' kiln performance quite significantly, and we expect very good revenue synergies out of this as an example. Does this answer your question?

No, that's excellent. And then just about the sort of situation in Europe and the current trading in Europe and elsewhere, which you highlighted in the statement, I mean, clearly, you look at some steel mill results in the last couple of weeks and the apparent steel consumption and the destock. I mean are you seeing -- around the destocking issue, what are you seeing on the ground there at the current time?

Well, I think in Europe, it goes beyond destocking. There's also an expected demand reduction for steel itself and also for cement, not to forget. The whole construction industry in Europe is not going into a boom, to put it [ the other way. ] So we think there's more than destocking. In the U.S., it has been destocking mostly. But we think, especially in cement, also in the U.S. construction industry, there might be a longer winter than anticipated. Then when we look to Southeast Asia, you have countries like Vietnam, where the largest steel producers now have shutdown in large proportion of their capacity for the foreseeable future 4, 6, 9 months. That's new that we didn't have this 6 weeks ago. And when we look at China, the Chinese Government is projecting a 40 million to 60 million tonne lower steel production next year. It will probably be closer to 100 million. So if you put this all together, really, the situation is not as pretty as it was -- not as mild as it looked like 2 months ago.

That's great. I suppose the obvious question, the response to that is possibly obviously then the confidence around the guidance as you say comfortably, which is a good word to use. So it just shows the ongoing improvement in the business and the benefits of production optimization plan are all coming through as you anticipated and you don't really see any change to their sort of scheduling, if you like.

Yes. No, absolutely. I mean most of our production optimization is near completion. Anyway this year more or less -- this year is almost completed. We have a good effort to make in December now. But that really from a profitability perspective, the EBITDA bottom line perspective, we have absolutely no worries for this year. But it's the working capital that gets -- where the collection gets pushed out, that's where we have a bit of a working capital and therefore, net debt concerns and the demand issue is for next year.

Our next question comes from Vanessa Jeffriess from Jefferies.

Just wondering what kind of combined market share you have now after this acquisition and what capabilities do you still think you're missing and need to focus on in further acquisitions?

In India, you're talking about?

Yes, yes, sorry, in India.

Yes. So we have a market share just after this merger slightly above 30%, if we take all refractories together, which is very different from one product line to another. For the time being, for India, this is it. If we -- at least on the refractory side, we have to now take a look at the structure of the business and possibly look more into the raw material space in order to strengthen the whole integration of the business.

Our next question comes from Patrick Steiner from Kepler Cheuvreux.

Two questions from my side. First, you stated that you would be able to increase EBITDA by at least 50%. Was this based on the improved EBITDA based on the higher production capacity, right?

Yes, that's correct. So it's based on the EBITDA that will be delivered in the fiscal year '22/'23. Now the fiscal year in India goes from April to March. So if we take that profitability, we can improve by 50% more or less within 1 year.

Okay. Perfect. Second question is, are there any implications for the European production going into India?

Yes, there could be. We're investigating this product by product. We obviously need the detailed production cost. That's why we couldn't do this in due diligence. We need to [indiscernible] in the integration project. But there are a couple of products in which Europe is the global supplier of these products. We make them only in Europe and export them all around the world, and we could replace this role by these plants in India, so move some of the global production. And that would mean shrinking the production in Europe to a Europe-for-Europe setup. But nothing is decided at this point, but that's the direction.

Okay. Can you give me just a quick couple of examples, what kind of products these are?

I don't want to do this, Patrick, because otherwise I'll create nervousness in our European employees...

Okay, great, great...

[indiscernible] with the demand.

[Operator Instructions] Our next question comes from Mark Davies Jones from Stifel.

Two for me, if I may. Firstly, given the widespread slowing in the global market you're seeing outside of India, how resilient do you think India can be for next year? Are the local demand characteristics such that it can remain in growth even if the global economy and global construction is in decline? Or should we expect that growth rate also to moderate next year? That's the first one.

Okay. We've had actually this discussion a lot while we were in India, while I was in India this week with a lot of customers and companies, there will be some impact, some negative impact on the Indian growth as well, but the expectation is that still the India growth also next year, even with parts of the world coming into a recession should be 5%, 6%, 7%. So it's relatively resilient, but not totally immune.

Yes, yes. That's still a lot better than most places we're looking, okay. And then the other one was around the working capital guidance. Just to be absolutely clear, this is just about the phasing of deliveries. This isn't any worsening in payment terms or any issues getting cash back out of your customer base. Is that correct?

Yes, that's correct.

[Operator Instructions] Our next question comes from Dominic Convey from Numis.

Just to follow -- I apologize, I missed the first part of the call. Can -- just to be clear, have you given that guidance for the improved EBITDA expected for the fiscal year '22/'23? And secondly, just in terms of the working cap expectations now mindful of the weaker demand environment into 2023, how should we think about your expectations to get working capital down through next year? And to what extent are we now thinking that net debt EBITDA would just be a little bit more sticky through 2023?

Yes. So the first question is, no, I didn't give any specific guidance, but with the utilization increase of the business, the guidance, the increase -- improvement of the EBITDA is very, very solidly double digit. So there's 30%, 40% growth in the EBITDA here just because of the environment. And on the basis of this, we can then bring the synergies. The working capital question is more difficult. Yes, we will be able to continue to reduce inventories in order to match this 1.8, 1.7x inventory reach locally on the ground for our customers. Assuming that nothing happens on the supply chain side, it doesn't look like this at the moment, of course. But with the shrinking of the business, of course, we will also need more buffer in the whole supply chain, so that -- because we can't start and stop plants so easily. So we might have time during the course of next year when we produce a little bit into inventory in the short term in order to run the plants on a smooth base because we have to already balance profitability, of course, with inventory. A typical example here is the cement products. We will increase inventories most likely in the summer so for the half year because we then expect to takeoff for the cement business in the second -- in the end of the calendar year. That's an example of where inventories could go up more than we -- otherwise would if the demand would be a little bit stronger. And -- but the rest of the working capital is actually well -- I mean the whole working capital is under control, but the rest of the working capital is more normalized. Receivables, I think we don't see any significant worry here. And of course, accounts payable might go down also as raw material prices come down.

[Operator Instructions]

Also, I mean, on this inventory question, I think we realized that because of all of this volatility, we might need to run the company structurally on a little bit higher inventory level. It's something that we're debating and that we're analyzing. But I think it's not out of the question that we will maybe come to this conclusion sometime in the first half of next year.

We have no more time for questions. I will hand back to Stefan for any further remarks.

Well, thank you very much for your interest. I hope we could convince you that this is a really great acquisition, both from a value creation perspective as well as from a strategic perspective. For sure, our colleagues in India are pumped, they are setup to deliver and overdeliver on the synergies and on the future of this business. This will allow us to bring a lot of new technologies into India and create significant value for Indian customers and give them access to things and tools that they didn't have before in order to make their business better. This makes us especially happy because of the global trading environment is more doomed or more dark than we have initially anticipated. So hopefully, we have a good -- at least one positive thing that we [indiscernible] it out over the course of the next year. Thank you very much for dialing in, and goodbye from Vienna and Asia.

Thank you for joining today's call. You may now disconnect.