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

Good morning from Vienna on this nice autumn day. We would like to give you an update about Q3 Trading at RHI Magnesita around the world. And let me start with the first -- with the 3 key messages from the events of the third quarter. First message, trading in the third quarter has been solid. We are raising our EBITA guidance for 2023. Volumes are still weak, but they are aligned with the original guidance for 2023, that means around 5% lower volume this year compared to last year, which in our business is actually significant. Pricing has been resilient and is the main driver to balance out this volume weakness, all right. And to complete this trading key message, the 2023 EBITA guidance is now at least EUR 380 million from EUR 360 million minimum achievement previously guided. Second key message, what were the actions that we took to get there? We are navigating this period of weaker demand better than in previous downturns because we have become a more agile business. We have invested into our network over the past several years to reduce costs, rationalize our network and much more stabilize our operations. The internal KPIs that we use to measure this are all showing major operational improvements. We are continuing to make improvements, mostly focusing on operational delivery and on customer centricity. Therefore, a better customer experience translates also into solid pricing. Customers are willing to pay for superior products and tailored services, if everything is delivered on time and in full. We will continue on this path of operational improvements. The next step-up focus for RHI Magnesita will be around systems, IT technology and further sharpening of our business processes and their delivery. Furthermore, the benefits from the strategic initiatives and also from acquisitions are so far offsetting the impact of lower volumes. Overall, RHI Magnesita, in our company, we are planning, forecasting and reacting more effectively to the volatility that we are now living with. Third key message, our M&A strategy continues to have good momentum. M&A is the primary route for both short- and long-term growth because the base business in our industry doesn't grow. The acquisition of P-D Refractories this quarter, that we announced at the beginning of October, is another transaction about which we are really excited. This additional business, together with earlier acquisitions in India, China and Türkiye positions us as a leader now in alumina and silica-based refractories, with extensive synergy potential and substantial improvements of customer experience. This will ensure our supply chain reliability for our customers. Let me dive a little bit deeper into some aspects which have determined our Q3 performance, namely the trading conditions, the demand outlook and the M&A. Ian will then provide some further details on the financials. The trading conditions, they have been tough, with the lowest volumes that we've seen in the past 15 years in the refractory world, from an overall perspective with, of course, a notable exception in India. We are clearly impacted by these reduced volumes of steel customers and also other materials, mainly as a consequence of the global slowdown in the construction industries and the continuous weakness in the automotive and transportation industry. Both remain below pre-pandemic levels. This puts pressure on our financial performance because our sales volumes are reduced, and we need to scale back production to match the demand. That increases our fixed cost per unit. We only currently operate at around 70% of our plant capacity across the quarter, the third quarter. The third quarter normally is our weakest volume quarter ahead of the beginning of the cement season, which happens in Q4. So we're not nervous about that fact. However, volumes wise, volumes have been weak and remain weak. The overall picture is still in line with the guidance that we have given at the beginning of the year. So we have prepared well for that period, rather been lucky with an uptake of the volumes. On pricing, we have been able to maintain a reasonable performance despite the onset of pricing pressure from our competitors. Thus far, the lower variable cost in some categories, such as freight and energy costs, is overcompensated by higher fixed costs, unfortunately, and a significant increase in people costs. Therefore, the pricing resilience is so important for us. We do still expect pricing pressure in the fourth quarter and also going into next year as the main factors to watch in our business performance, raw material pricing still have a potential to further decline and therefore, increase this pressure. They have already moved lower than previously in the third quarter of this year. Finished goods pricing compared to 1 year ago was stronger for us in the cement and lime and nonferrous segments, but that simply reflects the late cycle nature of these businesses when we compare them for the steel industry, where already our prices now are not higher anymore than last year. If we look forward now and there on outlook, we have to say that we have sufficient confidence following the performance that we've already delivered during the year to raise our 2023 EBITA guidance to the EUR 380 million minimum that I mentioned before. This is based on stronger than forecasted delivery in the third quarter, mainly on the bottom line rather than any more bullish outlook in the fourth quarter. Looking further ahead, based on our own order book, we see limited signs, and I think this is an optimistic term of any recovery in customer demand in 2024. We will continue to manage the business accordingly just like we have during the whole of 2023. This means operating our plants below their full capacity, well below the full capacity to match demand and match -- and achieve our inventory coverage targets with the associated impact on, of course, lower fixed cost absorption and higher fixed costs per unit. On pricing, we will remain as disciplined as possible like during the course of this year. Let me speak about M&A a little bit. Whilst we navigate these difficult trading conditions, we have continued to very diligently work to deliver our strategic growth plans. And they are mostly driven by our acquisition activities. The latest acquisition that we completed on the 3rd of October this year was the purchase of P-D Refractories. P-D is a Germany, Czech Republic and Slovenia based producer of high-quality silica and alumina-based refractories with a leading position in the glass and in the aluminum markets. Their focus is on complex, high value-added project executions, so dozens of different products delivered all at once for a big CapEx project of a customer. The opportunities to generate value from the P-D acquisition are numerous, and I would say that this is one of the more exciting acquisitions that we have made so far as well as the usual procurement savings and cross-selling opportunities, logistics, efficiency savings, P-D has some very interesting raw material assets, which we will be able to use across our global network with vertical integration benefits with RHI Magnesita tradition. We will also bring our expertise in recycling to the P-D product portfolio to offer more sustainable options to customers. The P-D acquisition has to be seen in connection with the acquisitions of Dalmia in India, Sormas in Türkiye and Chongqing in China. All of these 3 are also in the same product category of high-quality alumina and silica products. RHI Magnesita is now a global leader for these materials also. Since P-D is already generating solid EBITDA, the acquisition does not add materially to our gearing position on a pro forma basis. We are continuing to selectively assess further acquisition opportunities to strengthen our product or our geographic presence in line with our strategy and continuing what we have done in the past 2 years. Let me hand over to Ian now, who will give you some more deep dive into some of the financials of this quarter. Ian?

Thank you, Stefan. I am pleased to report that third quarter EBITA was similar to the levels achieved in the first quarter and second quarter and ahead of our expectations. The EBITA margin reduced slightly to 11.2% from 11.6% in the first half, but remains well ahead of the 10% guidance we originally gave at the start of the year. This reflects the benefit of resilient pricing. Margins were supported by lower input costs for raw materials, for energy and for freight, but this was offset by a reduced fixed cost absorption due to low production levels. Vertical integration margins continued to be low at 1.8% being temporarily compressed by low raw material prices and weak fixed cost absorption in our raw material plants due to low production levels. We also delivered another quarter of strong cash generation with year-to-date EBITA cash conversion of more than 120%. Working capital before M&A remained stable in the quarter as the benefit of lower inventory values were offset by noncash currency translation impacts, and an increase in volumes in line with management expectations. This is a period where inventories are normally increased in the industrial division ahead of the fourth quarter 2023 and the first quarter 2024's cement season. As we move through 2023, it's important to consider the financial impact of M&A, which has increased our net debt by approximately EUR 430 million in the year-to-date. This figure includes cash consideration paid, working capital absorption in newly acquired businesses and any financial debt that has been consolidated on acquisition. We also raised EUR 100 million of new equity funding in our India subsidiary in April, offsetting the cash outlay on acquisitions in that region. Acquired businesses we guided at the half year stage to contribute around EUR 40 million of EBITA in 2023. There will be a little bit more from P-D Refractories following the completion of that acquisition on the 3rd of October, but there will only be 1 quarter of contribution from P-D in 2023. Taking into account the strong performance of the base business, the contribution to EBITA from acquired businesses and the increase in net debt due to M&A., we expect that the net debt to EBITDA will be in line with our target range of up to 2 to 2.5x at the year-end. Overall, we are very pleased with the performance our teams globally have delivered in the third quarter, and that we are able to raise full year EBITA guidance to more than EUR 380 million. With that, Stefan and I will be very happy to take your questions. Thank you.

[Operator Instructions] The first question from the phone is from Harry Philips by Peel Hunt.

A couple of questions. Just in terms of -- I hate asking this sort of question. But the M&A pipeline, I mean, you've done 9 in 2 years, which is clearly a pretty busy track record. But I was just wondering sort of availability, are more options becoming available? And I'm guessing, obviously, you're wanting those opportunities to appear more in emerging market type territories rather than maybe Mainland Europe, albeit P-D was subs in Europe? And then just secondly, in terms of sort of where plant utilization is and so on, how long do you think you'll run at these lower rates? And then at what point is there a sort of tipping moment where these lower line speeds become sort of a long-term reality and therefore, sort of more action is required around the cost base?

So look, the M&A is, this is not a plannable science activity. Of course, there are many, many variables, many people issues there. I can tell you, Harry, every single one of those 9 deals took more or less 3 years from the day we start a conversation until we have closing. Very different reasons why they took 3 years, but bottom line, that's how long it takes. So this is -- I think we -- in our industry, we can only have an M&A growth strategy if we are prepared to stay at it for the long term. Therefore, we will continue on this avenue. Yes, we have many more discussions. There are enough targets. There are actually more people now coming to us and inquiring whether they can join our group. And the opportunities are all around the world. We will, of course, from a -- rather not strength in Europe because this is a shrinking market. But of course, it has great consolidation opportunities. That's why we did P-D. But P-D is not a European business. It's just a European-based business, but it's very global actually, and these are very complex projects. This is one of those product categories where Europe will remain competitive, despite CBAM and CO2 cost and all of these things because they are very high value-added products where those cost elements are not that relevant. And the European quality of managing complexity still is a good competitive advantage. That's why we did this. But otherwise, yes, of course, the world is growing in East and therefore, our focus is there as well. Plant utilization, we have these discussions every time there's a downturn, every few years. But we've also learned after every downturn, there's an upturn. And even 5% lower demand from customers doesn't sound like a lot, but it actually impacts us quite a bit. Once we have 5% upturn, it also requires all the effort possible for our plants to run as fast as possible to meet demand. So I think there is no real weakness in our network at this point in time coming from demand fluctuations. It just is what it is. And especially those regions in the Western world and in the more industrialized world where fixed costs are more difficult to manage, we are learning there how to become a little more flexible with our fixed cost, variabilizing some of them. So certainly, there's some room for improvement still here. We will, after all the M&As, do an in-depth network analysis towards the second half of next year. But that's not triggered by demand upswing or downswing, but more triggered by the now much bigger production network as a result of the M&As, and there could very well be 1 or 2 sites that we could consolidate, but no decision has been taken yet because we need to do the integrations first.

Of course. And then just sort of coming at that maybe a different way and thinking into recovery with your -- you say the greater flexibility in your fixed overhead and what have you reaches 11.2% margin when you're running at 70% utilization sort of turning it the other way and we go into recovery, would you hope that -- and I'm not asking for a forecast as such. But would you hope that your drop-through could step up a level when that recovery comes or flexibility on sort of downside resilience means you don't get quite the same dramatic drop-through when volumes come back?

No, of course, we should see a margin increase.

But beyond the sort of normal historical parameters that...

You just said you didn't ask for a forecast.

Okay.

I mean, Harry, if you look at our fixed cost absorption, as you'll see in the year-end results, it's currently running under by almost EUR 90 million for the full year. So year-on-year, there is another EUR 25 million hit to our EBITA because of lower fixed cost absorption, despite all of the action that has been taken around, for example, the production optimization plan. So as your capacity utilization improves from where it is at the moment to around 70%, certainly you would expect the operational leverage to benefit your earnings and your margins.

Don't count on the EUR 90 million, but a good piece of it, of course, this is the upside.

I thought you weren't making forecasts. So I'll put that back in.