S-Oil Corporation (A010950) Earnings Call Transcript & Summary

Good morning and good evening first of all. Thank you all for joining this conference call. And now we'll begin the conference of the fiscal year 2021 second quarter earning results by S-OIL. This conference will start with a presentation followed by a divisional Q&A session. [Operator Instructions] Now we shall commence the presentation on the fiscal year 2021 second quarter earning results by S-OIL.

Good morning, everyone. Welcome to S-OIL's second quarter earnings conference call. I am Cho Yong-kuk, the Treasure S-OIL Corporation. I would like to thank you all for joining us today, and I wish you are doing well. For today's conference call, Mr. Ko Gwang-cheol, IR team leader and other IR team members are here with me. Prior to Mr. Ko's presentation of the company's second quarter financial results and market environment, I would like to briefly comment on the second quarter performance and efforts for sustainable growth we made in second quarter. In the second quarter, the coronavirus still made it difficult for people to return to their daily lives. Nevertheless, as COVID-19 vaccination expanded help in major economy, demand for the company's products continued to recover along with higher expectations for a return to normal life. With the demand recovery, the company maintained strong financial results in the second quarter, posting KRW 571 billion of operating profit and thereby recording the historical highest half year production profit of KRW 1.2 trillion. The company's outstanding performance in the first half is so particularly meaningful in that the results was obtained even on the still weak regional refining margin and the company's profit-making source was enlarged and diversified by the company's new plants, RUC and ODC. In the second quarter, regional refining margin continued weakness mainly from our large negative spread of high sulphur fuel oil. However, the company achieved solid profit in refining business, thanks to its minimal exposure to high sulphur fuel oil and stable operation of upgrading facilities. And the operating profit in Ruwais business expanded significantly, posting a new record high and accounted for around 50% of the company's total second quarter operating profit. In addition, petrochemical business operating market increased Q-on-Q on the back of recovery of aromatic margins with strong polymer margins. In order to fully capitalize on the high margins of Ruwais oil and polymer, the company ran RUC and ODC plants above their designed capacity with full operation of our refining facilities. Looking ahead to the third quarter, the refining business environment is expected to improve. The increase in vaccination rates will continue to drive global mobility and economic activity with major governments' progressive measures to boost economic supporting the demand recovery of oil products, especially transport fuels such as gasoline and diesel. The company's non-refining businesses, petrochemical and lube base oil business, are focused to maintain solid margins in the third quarter due to robust demand in downstream sectors. Next, the company has started to contribute to the sustainable growth of our society as well as the company through continuous investments and integrated ESG activities. In the second quarter, the company resumed co-works with an overseas engineering firm for the Shaheen Project front-end and engineering and design work. It is required for final investment decision scheduled in second half next year. Through the new petrochemical product, Shaheen, the company will expand petrochemical business portion up to 25% from 12% at present to secure sustainable growth and to be ready for beyond fuel age. Meanwhile, for a more systematic and integrated response to climate change and ESG trends, the company recently launched ESG Committee under CEO. The committee will create policies, strategies and road maps for the company's ESG management. Lastly, the good news I would like to share with you is that the company acquired ISO 37301 certification, an international standard for compliance management system for the first time in the world. The certification confirms that the company's compliance system is of a world-class quality. In the first half of this year, the company recorded outstanding performance even in the ongoing pandemic situation. But the company will not be complacent and will do its best to protect the interest of all stakeholders and to ensure sustainable growth. This concludes my comments. Once again, thank you all for listening. And I would like to ask for your continued support and interest. Now I will hand over to Mr. Ko. Mr. Ko, please continue.

Thank you, Mr. Cho, and I want to add my welcome to all of you joining today. Before starting, I'd like to draw your attention to our cautionary statement. Second quarter financial results are provisional and the results are subject to change after external auditor's review. Also, over the course of this conference call, we will make forward-looking statement that is based on our current expectations, assumptions, estimates and projections. We caution you not to place undue reliance on any forward-looking statement, which may involve risks and uncertainties. Now I will begin the presentation of our second quarter financial results on Slide 4. We delivered KRW 6.7 trillion in revenue, 26% quarter-on-quarter advanced on the back of the rise in selling prices and expansion in sales volume. Selling prices continued to increase around 14% quarter-on-quarter on the rising crude price. Also, sales volume expanded 12% supported by full operation of the company's refinery. Operating income recorded KRW 571 billion, sustaining strong quarterly performance owing to better product margins, although it decreased by KRW 58 billion from the previous quarter due to reduction in inventory-related gains. Thanks to the second consecutive quarter of good performance, the company obtained record high half year operating profit of KRW 1.2 trillion. Margins in most of our products grew quarter-on-quarter from gasoline to aromatics to Ruwais oil. The company took full advantage of the improving market situations by maximizing the run rate of operating units such as RUC and ODC and lube plant. Meanwhile, relatively mild rise in crude prices in second quarter reduced inventory-related gain to KRW 139 billion from KRW 286 billion of quarter 1. Below operating income line, FX gain on net liabilities turned to plus KRW 1.5 million from minus KRW 109 million amid a stable movement of won-dollar exchange rate. As a result, second quarter pretax income was KRW 548 billion, increased by KRW 82 billion compared to last quarter. Moving on to next slide to our financial status. Balance sheet consecutively became lowered. In spite of increase in working capital requirements, debt balance decreased by more than KRW 0.6 trillion, while quarter end cash balance was about KRW 1.5 trillion. Accordingly, net debt balance reduced to KRW 4.4 trillion and net debt/equity ratio further declined to 68% from 76% a quarter ago. ROE and ROCE also further went to 25% and 18%, respectively, while EBITDA in second quarter recorded KRW 679 million. Now moving on to second quarter performance by business segment on Slide 6. In refining business, sales revenue expanded to 27% quarter-on-quarter while operating income registered KRW 152 billion, quarter-on-quarter decreased by KRW 190 billion. Inventory-related gain decreased to KRW 120 billion and thereby lessened the operating profit. However, widening spread of diesel and gasoline drove solid performance with steady, full operation of refining and upgrading plans. In nonrefining business, its performance became more pronounced. Petrochemical sector posted KRW 134 billion, 36% up quarter-on-quarter with operating profit margin ratio reaching 11%. In order to strengthen propylene oxide, the aromatics spread made petrochemical business more profitable. Lube business was especially outstanding. Its operating income increased 50% to KRW 284 billion, setting a new record quarterly -- setting a new quarterly record amid a tight supply. Turning to the capital expenditure and refinery operation. In the first half, KRW 430 billion was spent on capital expenditure. Most of them was used for minor projects and construction as planned. Depreciation for first half was KRW 297 billion. When it comes to the plant turnarounds, there was no maintenance in the second half -- second quarter and will be no schedule one for the remaining year. Looking at utilization rate of major plants for the second quarter. Aside from PX plant, every unit was running close to or above capacity. In particular, RUC and ODC were opening at 107% and 110% capacity, respectively, in order to maximize profit. Meanwhile, PX run rate was lower quarter-on-quarter to use more naphtha to increase the production of gasoline with higher margin. Next, let me explain second quarter market environment and third quarter outlook by business -- each business at Slide 8. Looking at refining business ports, Singapore refining complex margin slightly went down from the previous quarter, recording minus $2.1 per barrel on average mainly due to further decrease of high sulphur fuel oil. However, as the COVID-19 vaccination rates increased across the globe, diesel and gasoline margin improved consecutively. [ Though the products -- while ] the margins increased the company's recurring margin quarter-on-quarter as gasoline and diesel both are the company's main products, meanwhile the company's refining margin is immune to high sulphur fuels negative margin as the high sulphur fuel portion is negligible. In the third quarter, regional refining margin is expected to rebound as the demand for transport fuels, gasoline and diesel, continues to be stronger driven by increase in mobility and economic activities amid the progress of the pandemic vaccinations and driving season. Moving on to polymer and petrochemical sectors. Propylene oxide spread over naphtha moved down 8% from second quarter high level, affected by start-up of new PO plants and high naphtha prices, but the spread stayed strong as polyol demand from automotive and home appliances remained lower. Polypropylene spreads also declined 8% to $552 per ton as the demand in Southeast Asia was hit by the massive increase of the COVID-19 cases and new capacities started to operate. In the third quarter, fuel spread would likely remain solid due to continued strength in demand for PO derivatives even though it will be pressurized by product supply from new PO plants. PP spread is expected to gradually bounce back as COVID-19 cases in South Asia stabilizes, but its offset would be restrained by new capacities to come. Turning to aromatics, next slide. PX spread recovered to $246 per ton on average caused by recovery in demand for polyester chain products and operation of new PTA plants amid the continued supply disruption from planned and unplanned plant outages. Benzene spread simply hiked, reaching $359 per ton on strong downstream demand and input increase from U.S. amid the start of a high maintenance season. Looking ahead, PX spread would move around the second quarter level as the supply/demand is expected to be balanced by a steady demand recovery and continued lower operating rate of regional PX plant. Benzene spread is focused to stay at second quarter level due to solid demand in downstream sectors and low inventory in the region in spite of supply increase from new naphtha crackers starting operation. Lastly, looking at lube base market at Slide 11. Lube base oil spread or high sulphur fuel oil continued its hike, rising to record high level $82 per barrel on the back of prolonged supply tightness. In the third quarter, lube base spread will maintain its high level as demand for high-quality products would likely continue, although supply tightness would be eased due to completion of planned turnaround of major suppliers. That concludes my prepared presentation. Thank you for listening. Now we would be happy to take your questions.

[Operator Instructions] The first question will be given by Kang Dong Jin from Hyundai Motor Securities.

[Interpreted] This is from Hyundai Motor Securities, and I have 2 questions. First, although the lube base oil margin has been remaining at a very high level in the last few quarters and while there is a forecast and an outlook that the margin could slightly drop in the second half of the year, for how long do you think this high margin situation will continue in the market? And my second question has to do with the new regulations around taxation in China, particularly targeting the teapot refineries. Do you think this new taxation and regulatory movements in China will affect the overall product balance in the region?

[Interpreted] Yes. To your first question about how the high lube base oil margin situation will last in the market, well, as I have mentioned in previous occasions, this is largely driven by the tightness on the supply side. And I know from the third quarter and onwards, some of the facilities will resume their operations after the T&I. But fundamentally, some tightness of supply is largely driven by the cut in the refining capacity across the globe caused by the COVID-19 situation. So as opposed to what you're saying, we do still believe that the high margin situation will continue to last through the second half of the year. And although there are some forecasts that the increase in the refining margin could slightly weaken the lube base oil margins and some may think that these 2 factors are inversely related, I don't think this will have a significant impact on the overall lube base oil margin because a higher refining margin means overall economic recovery as a positive signal to the global economy, which will positively impact the demand for lube base oil. And as you know, our portion of the Grade 3 (sic) [ Group III ] high-quality lube base oil products is quite high out of the total LBO production. And so -- and we believe this demand for the -- particularly for the high-quality lube base oil products will remain very high. And as you know, from the second half of last year, there was a new regulation announced by China and India, which tightened their regulations on the vehicle exhaust gas and this also affected the new -- the specifications in the new engine oil. And although these factors are not fully affecting the market, particularly the demand side because of COVID-19, I believe once the situation subsides, this impact will be very significant across the Asian market from the second half of this year, particularly affecting the demand for the Group III high-quality blue base oil. And your second question about how the new regulatory moves by the Chinese government against the teapot refineries is affecting the overall market fundamentals in Asia. As all of you know, in June, the Chinese government announced that they will impose a stronger regulations against the teapot refineries. In fact, there were a number of regulatory actions announced by the Chinese government. First of all, on the teapot refineries, they import LCO and MX to improve their production of diesel and gasoline. However, the Chinese government announced to flash a higher consumption tax to the imported LCO and MX starting from the middle of June and thus restricting the overall import of LCO and MX by the Chinese teapot refineries. And another announcement by the Chinese government is that they significantly reduced the crude oil import quota, which will substantially ease the supply situation in China and improve the overall domestic margin. And I believe this kind of move will prompt the state-run Chinese refineries to supply more to the domestic market, which means less export to the region. So all in all, from the second half of the year, I believe the market will see an improved margin situation because China will export less oil into Asia.

The following question is by Park Anna from Macquarie Securities.

[Interpreted] This is from Macquarie Securities. I have 2 questions on lube base oil. First of all, could you elaborate a little more on the vehicle exhaust gas regulations announced by the Chinese and the Indian governments effective from the second half of the year? And second, could you tell me in numeric terms how much of an impact the benefit Group III -- S-OIL Group III product has on reducing the overall vehicle emission gas.

[Interpreted] Yes. About your first question on the new regulations on vehicle exhaust gas by China and India. As you know, Korea, United States and the countries in Europe, they are all implementing the highest emission gas level, which is Euro 6, whereas it was -- in the second half of last year that India and China announced a new regulation on the vehicle exhaust gas, which specifies a decrease in the emissions of sulfur, which will subsequently raise efficiency of engine and also extend the mileage. About your second question on how the use of S-OIL's Group III lube base oil contributes to reduction in the exhaust gas. Unfortunately, we do not have the data and the numbers, but once we make -- once we get them, we'll make them available and share it with you.

[Operator Instructions] The following question is by Nomura Financial Investment.

[Interpreted] This is from Nomura Financial Investment. I have 2 questions. First is regarding your plans for the interim dividend. And second is, I'd like you to share with us the company's status on the crude-to-chemical investment.

[Interpreted] So to answer your first question on the plans for the interim dividend, as I have mentioned in my presentation earlier, we achieved a record high half year performance in the first half of 2021. And in early June, we've also shared with you the record date for the interim dividend payment. But this Thursday, we have the Board of directors, and at the Board of Directors, the final decision on the interim dividend payment will be made with considerations into a number of factors, which include our performance in the first half of the year, the company's overall financial structure, which is on a recovering trend, the company's cash flow and the overall market expectations. So given the fact that the decision will be made in 2 days, I don't think it is appropriate for me to share this with you. On your second question regarding the crude to chemical is actually thermal crude to chemical, which is a major petrochemical investment project. And to share with you the overall progress, as I have already announced in the previous IR conference call, we resumed the front-end engineering design work in the end of the second quarter. Actually, it has to be interrupted and suspended last year because of the COVID-19 situation and particularly because of a serious COVID situation in the United Kingdom, but we resumed it at the end of last quarter and it is ongoing. And based on the results of this front-end engineering and design works, we hope to estimate the CapEx and get the final investment decision sometime in the second half of 2022. But at the same time, while we have announced earlier that our plans, our investment size will be around KRW 7 trillion, ever since we've been striving to save the cost and try to make the most -- build a new plant in the most cost-effective manner by saving the CapEx, and at the same time, delivering and building the best -- the complex. So we've gone through a lot of ideation and I think that will deliver a significant slash in the overall CapEx. I cannot give you the numbers right now, but we expect it to be quite a sizable reduction in the CapEx.

[Operator Instructions] The following question is by Hwang Kyu-won from Yuanta Securities.

[Interpreted] I want to know your plans for the carbon emission reduction plan. It says that the reduction is about 9.6 million tonnes for this year and that your target is to reduce it by 20% by 2030 compared to the current level. Do you have an outline on your carbon emission reduction plan? And if so, what is your plan?

[Interpreted] So actually, we have made it clear in our Vision 2030 that we will reduce the carbon emissions by 20% in 2030 versus the business as usual. So we are actually exploring and working on a number of reduction plans, the first of it is to improve the energy efficiency in the refinery. And second, we're also very active in the clean development programs in order to secure the carbon credit. But we are continuously working on the reduction plans. And once we have a more concrete one, we will also share it with you. So to this end, in May this year, we established the ESG Committee in order to achieve our target of 20% reduction versus business as usual. So at the ESG Committee, we will review all the available options, all the viable options, and we will also set the right priorities in order to make sure that we can achieve our target in the most efficient manner. Once the -- once more detailed plans are set, we will regularly communicate them with the market.

[Operator Instructions] The following question is by Cho Hyunryul from Samsung Securities.

[Interpreted] So in your second quarter performance, could you share with us the inventory-related gains in the fuel business only, not across the company? And second has to do with the margin for kerosene and diesel. With the Delta variant spreading across Northeast Asia, including South Korea, the expectations for the margin recovery for diesel and kerosene are waning. Do you think that margin will recover in the third quarter? Or do you think the Delta variant will affect and kind of delay the margin recovery for these 2 products?

[Interpreted] As for the inventory-related gains in the fuel business, it's around KRW 230 billion in Q1 and KRW 120 billion in Q2. And as for the margin for diesel and kerosene, I think the Delta variant is temporarily affecting the margin recovery of these 2 products in a negative way. But I don't see the impact will be as big as what we saw at the very earliest days of COVID-19, and we expect the margin for diesel and kerosene to recover from the second half of this year. This is because, whereas the United States and the EU completely locked down and shut down the whole country and the continent in the earliest days of COVID-19, I think the governments in Europe and the United States have shifted their policy from the restriction basis to more of a control basis, and therefore, I believe this policy change will have less impact on the overall demand -- will have less impact on the demand cutdown, particularly for the margin -- particularly for diesel and kerosene.

[Operator Instructions]

[Interpreted] Well, thank you very much to all of you for participating in the S-OIL's earnings release for the second quarter of 2021, and we would like to close the release. I know the heat wave and COVID-19 are big sources of stress to everyone, but please stay healthy and put. Thank you.

This concludes the Fiscal Year 2021 Second Quarter Earning Results by S-OIL. Thank you for your participation. [Portions of this transcript that are marked [Interpreted] were spoken by an interpreter present on the live call.]