Samsung SDI Co., Ltd. (A006400) Earnings Call Transcript & Summary

[Interpreted] Good morning. Thank you very much for joining our conference call. We will now start the 2022 Second Quarter Earnings Conference Call of Samsung SDI. This conference call will start by a presentation by the company following -- followed by a Q&A session. [Operator Instructions] Now we will start the company's presentation.

[Interpreted] Good morning. I am Yoontae Kim, Vice President of the Business Management Office at Samsung SDI. First, I would like to introduce our management team attending today's conference call. Today, our CFO, Jong Sung Kim; Head of the Automotive and ESS Battery Strategic Marketing team, Michael Son; Head of the Small Battery Strategic Marketing team, Jaeyoung Lee; and Head of Electronic Materials Strategic Marketing team, Kyongho, are with us this morning. We will now begin the earnings call of -- second quarter 2022. Let us start with the second quarter results. In the second quarter, that made a tough business environment such as the Russian-Ukraine war and unstable global supply chain. Both revenue and operating profit went up quarter-on-quarter. The second quarter revenue was KRW 4.74 trillion, up by 17% quarter-on-quarter and 42% year-on-year, which marked again as a new record high quarterly sales. Operating profit recorded KRW 429 billion, up 33% quarter-on-quarter and 45% year-on-year with operating profit margin of 9%. Second quarter operating profit also marked the highest quarterly results so far. By business division, Energy business revenue recorded KRW 4.07 trillion, up 23% quarter-on-quarter and 50% year-on-year. Operating profit recorded KRW 244.9 billion, up 48% quarter-on-quarter and 45% year-on-year with margin of 6%. Electronic Materials business revenue recorded KRW 669.2 billion, down 8% quarter-on-quarter, but up 8% year-on-year. Operating profit was KRW 184.1 billion, up 17% quarter-on-quarter and 46% year-on-year. Nonoperating income, equity method applied recorded KRW 99.8 billion. Pretax profit recorded KRW 528.8 billion and net profit, KRW 409.2 billion. Assets as of the end of the second quarter stood at KRW 28.8 trillion, increased by KRW 1.8 trillion quarter-on-quarter and such increase was made mainly due to the increase of tangible assets driven by CapEx and to the increased accounts receivable. Liabilities recorded KRW 12.8 trillion, up by KRW 1.4 trillion quarter-on-quarter, mainly due to the increased accounts payable. Equity recorded KRW 16 trillion, up by KRW 387.8 billion quarter-on-quarter. Next, I'd like to summarize our Sustainable Management activities made during the second quarter. After we organized sustainability management committee in the first quarter, we appointed one of our outside directors, Mr. [ Duk Hyun Kim ], as the Chairman of Committee in April and actively initiated the operation of the committee. Additionally, we opened sustainability management conference under the leadership of our CEO in order to discuss mid- to long-term sustainable strategies amongst our main executives and to share the results to all employees. Also, we published Sustainability Report 2021 on our website in June. Through the report, we have to achieve as transparent communication as possible with all stakeholders and to provide ample information of our sustainable activities and achievements. We look forward to your interest and support. Next is the second quarter results and the second half outlook by each business division.

[Interpreted] Good morning. I am Michael Son, Head of the Automotive and ESS Battery Strategic Marketing team. Despite numbers of difficult global business circumstances in the second quarter. The revenue for our Automotive and ESS Battery business increased both in quarter-on-quarter and year-on-year with improved profitability. EV battery sales increased around high-value products such as Gen.5 batteries for our major customers. In preparation for mid- to long-term growth, we signed the JV contract with Stellantis and initiated construction of pilot lines for solid-state batteries. ESS revenue went up due to the increased sales of utility in the U.S. Profitability also went up owning to higher ASP index with the increased materials costs. In the second half, we expect the sales to continue to grow around high-value products. For EV battery, sales boost of Gen.5 batteries expected with the start of operation in Hungary plant 2, we are also making our utmost effort in winning deals for the next-generation platform. For ESS, we expect the demand for renewable energy to increase as the oil price maintains high and more countries are following the global trend and expansion of green policies. So in order to meet such increased demand, we are planning to increase sales by launching a new high-value product for utility applications with higher energy density and lower costs. For the second half, we will closely monitor and manage the risks of prolonged Russia-Ukraine war, unstable supply chain and demand decrease triggered by recession. This is the end of our presentation. Thank you.

[Interpreted] Good morning. I am Jaeyoung Lee, Head of the Small Batteries Strategy Marketing team. Let me start with the business performance of Small-sized Battery Division. Both the revenue and profitability improved quarter-on-quarter and year-on-year, as a result of cylindrical battery sales expansion centered around EV and power tool applications. Cylindrical batteries revenue continued to increase, especially around EV and the revenue for power to also increase owing to increased demand. Pouch battery sales decreased due to the slowing demand in IT applications and to the growing number of awaiting customers for new smartphone release in the second half. In the second half, we expect continued sales growth around mobility application. Cylindrical battery sales are expected to grow as the demand for mobility, such as EV and e-bike is likely to increase. As it anticipated that the demand for 46 pie batteries will increase. We are planning to initiate construction of corresponding production lines for new EV products. For pouch battery, we are planning to start supplying for a new flagship smartphone. This is the end of presentation. Thank you.

[Interpreted] Good morning. I am Kyongho, Head of Electronic Materials Strategic Marketing team. In the second quarter, we saw an improvement in profitability, thanks to sales increase around high-value products. The OLED revenue increased as we started sales for new platforms. The Semiconductor revenue was on par with the previous quarter. Polarizer revenue saw a slight decrease quarter-on-quarter but maintained profitability with increased sales of differentiated products. In the second half, we will promote sales increase mainly in OLED and Semiconductors. For OLED, we will expand sales for major customers while making continuous efforts to enter new platforms. For Semiconductor, we will increase sales by releasing new products on time, and by diversifying customer portfolio for polarizer, we will maintain sales and profitability against decreasing demand. This is the end of the Electronic Materials division's presentation.

[Interpreted] Now we will close the presentation and proceed the Q&A session. Questions and answers will be provided in Korean. English interpretation will be provided consecutively. If you have any questions, please follow the operator's guidance.

[Foreign Language] [Operator Instructions] The first question will be provided by Chulhee Cho from Korea Investment & Securities. Please go ahead with your question.

[Interpreted] I have 2 questions. First question is about your overall second half business outlook. Despite various challenges during the first half, including the Russian-Ukraine war, the semiconductor situation and COVID ongoing, the company delivered a very strong performance, and I congratulate you on that. But for example, a couple of days ago, the head economists of the IMF gave out rather pessimistic outlook about the U.S. economy, and there are concerns of a possible economic recession coming in at the second half. This would possibly impact the downstream businesses that you are engaged in. So in that context, can you share with us your business outlook for the second half? Second question is about the raw materials for the batteries. The supply chain continues to be a source of concern in terms of both pricing of raw materials and also securing supply. Of course, supply chain management is critical to ensure the growth of the company in the long term. So can you give us your detailed supply chain management strategy?

[Interpreted] To answer your first question about the second half outlook. Before we go to the second half, I would like to just briefly recap the first half. As you mentioned, despite the challenges in the first half, including the Russian-Ukraine war, global supply chain issues and the COVID lockdowns, we were able to deliver business results in line with market expectations, thanks to effective risk management, including a pass-through of the key metal prices, risk -- increased sales of high-end products, including Gen.5 and positive effects from the foreign exchange rate. Also meaningful in the first half was that we were able to deliver solid performance. In addition to that, we made significant progress on securing future growth, including the JV with Stellantis, expansion of our Malaysia plant #2 and investments into an all-solid pilot line. In the second half, while all existing risks will remain, they are also now concerned over a possible global economic recession, and we do expect to continue to see very challenging business environment. Now that said, the demand for EV batteries is expected to continue solid growth in the second half. The semiconductor supply issue eases up and major OEMs would now be able to ramp up sales of their new EV models. ESS is also expected to see growing demand, especially around the power utilities driven by the stronger momentum towards renewables in response to higher electricity prices and the need for national self-sufficient energy systems to gain better energy security. Now in the case of small batteries, while power-to-market may weaken somewhat due to weaker housing constructions, the demand for EV small batteries as well as mobility application small batteries, including e-Bikes, is expected to maintain high growth rates. And so we would -- we will be responding by flexibly adjusting our product mix. Some of you have shared concerns about CapEx, but our CapEx decisions and executions are based on firm customer demand, and we are carrying out our CapEx on schedule without issues. So to just recap, overall, the second half is likely to see even greater uncertainty and risks on both the demand and supply side and we will not rest satisfied with the strong first half and continue to diligently sense the economic situation as well as customer demand and continue to effectively manage risks and the supply chain to deliver even better results in the second half. And to answer your second question about our supply chain management strategy, the rapid growth of the EV market has led to a rapid jump in raw material demand and also with uncertainties regarding the supply chain caused by international political developments. There was a heightened need to update the future strategies that we have about supply chain operation. So the key focus of SDI supply chain strategy has been to build out local battery supply networks in key markets such as Europe and the U.S. and also to shift to a supply chain that is ready to meet all of the new environment-related regulatory requirements. With the strategic picture of building out a complete end-to-end supply chain in each of the regions, we are increasing strategic cooperation with all upstream partners to create a local supply system. As a part of this global complete end-to-end operation, we are planning to increase supply chain localization rates to 80% for Hungary, and also to reach a similar supply chain localization rates in the U.S. by year 2025, which is when mass production is scheduled to start. Also in the case of key materials, we are actively pursuing closer relationships such as joint ventures with cathode material suppliers and equity investments into lithium companies and for other materials using LTAs to secure long-term supply. We're also managing risk by diversifying the overall upstream supply chain and practicing a dual sourcing policy. Lastly, metal recycling strategies are becoming very important, not only as a way of securing long-term supply but also for ESG perspectives. And so we are working with the key partners in recycling to create a closed loop recycling system at all of our global sites.

[Foreign Language] The following question will be presented by Woo-Hyung Cho from HSBC. Please go ahead with your question.

[Interpreted] I have 2 questions. First question is about your EV battery, which, in terms of revenue, increased quite significantly during the second quarter. I would assume part of that is from the pass-through of the higher metal prices. A part of that would also be from the positive exchange rate effect. And part of that would be from volume increases. Can you break down your revenue increase in second quarter over these factors to just help us gain better insight? Second question is about ESS. I think up till now, the company mainly focused within ESS of the higher-end UPS, for example, households. But as you mentioned during your presentation, going forward, the utility -- power utility-related ESS would probably take up a larger share, grow faster as part of the eco-friendly energy policies that many governments are introducing. Can you give us a bit more detail about how you plan to gain that market?

[Interpreted] To answer your first question about the breakdown of our incremental revenue growth in the second quarter. In second quarter, our EV battery revenue increased by around 30% quarter-on-quarter, and our margins also improved significantly. Out of that 30% Q-o-Q revenue growth, about 20% is attributed to increase in sales volume and around 10% is attributed to higher sales prices and the foreign exchange rate effect. At the profit level, the exchange rate was a positive factor on our bottom line, but the higher sales price based on the pass-through of raw material prices, had a limited impact on our bottom line as most of the incremental increase in the sales price was offset by purchasing cost increases. So all things considered a significant increase in the sales volume, especially around Gen.5 was the largest contributor in terms of both profitability and revenue. While metal prices and FX volatility is expected to continue in the second half, we expect to see solid demand growth from our high-end products for major EV customers. And so we will focus on delivering continued revenue and profit growth based on this opportunity. And to answer your second question about how we plan to attack the power utility segment. In the mid- to long term, the main market for ESS will be the power market. And so it is critical to capture that segment. The Russian-Ukraine war has heightened attention around energy inflation and the need for energy security. And so major countries have been announcing detailed targets and policies around eco-friendly renewable generation. And so this would lead to a growth in the renewable power market. We are preparing a new high-capacity products with improved safety features and better cost competitiveness, targeting the power market and we're planning to start mass production and supply of this during the second half. The new high-capacity product uses high-nickel NCA cathode material for a 30% gain in capacity and improved energy density to lower cost by 15%. It also has a differentiated fire extinguishing system for greater safety. So our competitiveness in the power ESS market is expected to increase with this new product. At the same time, in the mid to long term, we have plans of targeting the power utility market by using an NMx battery that has higher manganese content and does not use the higher-cost cobalt.

[Foreign Language] The following question will be presented by Ji-San Kim from Kiwoom Securities.

[Interpreted] So I have 2 questions. The first question is about your battery business. Your battery business OP margin is stronger than the other companies in that segment. At some time, SDI was criticized for having 2 conservative capacity expansion policies. But under the current high-risk environment, looking back, that seems to have been the reasonable policy to take to place a bigger focus on profitability. With that in mind, can you give us a bit more background to what you think explains the higher profitability of your battery business versus your peers? My second question is about the Electronics Material business. In the first half, it delivered a stronger performance than what the market had expected. But looking towards the second half, there are concerns that your downstream IT demand would turn weak. With that in mind, can you give us your outlook of your business in the second half?

[Interpreted] Regarding the electronics -- regarding the battery business, I think the greatest reason we were able to maintain solid results in the battery business despite the challenging environment was because we increased sales around the high-end products, especially the EV Gen.5 batteries and also the high-power batteries for the power to applications. What also made a difference was our effective supply chain and risk management. By cooperating closely with our existing partners and finding a wide variety of new sources, we were able to avoid major supply issues. Operation also contributed to better profitability. Based on customer demand, we maintained high utilization and also achieved a high production yield by implementing a thorough quality management system as well as process control. So the uncertainties are likely to continue in the second half, but we will continue to focus on delivering strong performance through a thorough and preemptive risk management.

[Interpreted] Regarding your second question about the Electronics Materials business, to just look at what we expect in terms of downstream demand in the second half by product. In the case of display, customers have already built up significant inventory against supply chain issues that happened in the first half. And so second half demand is likely to decrease. But we think that even within display, OLED panel demand will grow, tied to the launch of new flagship smartphones scheduled in the second half. In the semiconductor market, memory prices have been declining steadily but memories for servers, the demand for memory for server applications is continuing to grow. And so actually, we think that wafer input volumes are expected to continue solid growth even in the second half. So given that demand outlook, we will focus on increasing sales around semiconductors and OLED material that are supported by stronger downstream demand. In the case of polarizer film, which may see weaker demand, we will focus on securing volume as much as possible by diversifying the customer base. So overall, the target of our business is to deliver even better business results in the second half versus first half and also deliver better results on a full year basis versus last year.

[Foreign Language] The following question will be presented by Dong-wan Kim from Macquarie.

[Interpreted] I have 2 questions. First question is about the batteries for power tools. As you mentioned during your presentation, there are expectations that the U.S. housing market will slow down in the second half. Wouldn't that also result in a decreased demand in power tools? So do you think that you'll be able to maintain your profitability in the power tool battery business in the second half? Second question is also tied to that because it's about small batteries. As you expect, your small-sized battery supply for EV and e-bike applications to increase and possibly, there will be a decrease of your power to battery cells, would that result in a shift in your product mix within the cylindrical battery business? Would that change in product mix, increase of EV and e-bike, decrease of power tool possibly result in a decrease of your margins?

[Interpreted] To answer your first question, the interest rate increase and economic recession has caused the U.S. housing index to decline, and we do see an increase in channel inventory, especially around consumer power tools. This indicates that the power to battery demand is likely to grow, but grow at a slower pace than originally expected during the second half. However, as a leader in the power to cylindrical battery segment, we enjoy the benefit of strong partnerships based on long-term supply agreements with global top players in power tools. And so we expect that by focusing on professional power tools, including construction tools around the high-performance product lineup, we will be able to maintain the growth trend. Within power tools, the demand for construction tools or outdoor tools that use high-power battery is expected to be relatively more stable and remain solid even in the second half. So while overall market situation may be somewhat challenging, we will address this by strengthening our high-end product portfolio and closely cooperating with our customers to continue revenue growth and maintain profitability. Regarding your second question, in general, the high-power output batteries that are used in applications such as power tools or vacuum cleaners, do have a relatively higher margin than compared to the mid-power output batteries that are used for mobility applications because there's a greater opportunity to use technology for product differentiation in the high-power batteries. But then mobility demand by nature is less sensitive to short-term changes, and this is a source of stable mid- to long-term volume. Also mobility products actually use more cells per product. Also, we are using relatively a smaller number of battery types to supply to a large volume of mobility application demand which gives us the opportunity for better production efficiency and better margins is produced at high volumes. Also in terms of the cylindrical batteries, we have cylindrical battery for EV applications which was only in the initial stage of supply during the first half, but we expect volumes to increase meaningfully during the second half, which would contribute to significant improvement in margins.

[Foreign Language] The last question will be presented by Sung Kyu Kim from Daiwa.

[Interpreted] I have 2 questions. First question is about the 46 pie batteries, there were news that you are planning to make line investments into the 46 pie cylindrical battery production capacity even though there are many different form factors that can be used on EVs, what do you think is the advantage of the 46 pie form factor? Can you also give us some updates on your customer order win situation and also your mass production plans for the 46 pie? Second question is about second half outlook. I think overall, there is a prevailing view that second half IT demand would slow down, especially around smartphones. So given that, what is your business outlook for your IT application batteries in the second half?

[Interpreted] To answer your first question about the 46 pie advantages as well as an update on our order win situation. Currently, as you know, EVs are using various form factors, such as prismatic pouch and cylindrical. Each form factor has its own inherent weak points and advantages. And so each have been trying to highlight their strength while improving on the weak points. Each OEM has been choosing different form factors according to their own EV strategy. Now the 46 pie battery has a larger circumference and height compared to the existing cylindrical and therefore, can achieve about 5x more energy density and 6x more power output. That is why OEMs that are already using cylindrical are attracted to this as an innovative technology for cost saving. Another reason that OEMs are considering the adoption of the 46 pie is the ease of sourcing about using a battery that has a standardized dimension. Our SDI is currently developing products that offers not only these advantages of the 46 pie, but also has better safety design concepts. And we also plan to apply our high-nickel NCA and SCN chemistry technology to implement industry best capacity and improve the battery life as well as the fast-charging performance using a new plate manufacturing process. We are currently investing in the 46 pie line in China to further strengthen our EV battery lineup. Even though we're not able to share details about customer information, we are currently talking with several OEMs about supply, and we'll be prepared to supply the product on time to support the customers' schedules.

[Interpreted] Regarding your second question about IT application battery demand, the continued inflation and concerns of a possible global recession has triggered concerns over a slowdown of IT demand, including smartphones in the second half. However, with new flagship smartphones that use our batteries are scheduled for launch in the second half, we think that the impact of this slower demand will be limited at our end. Also, demand for wearables, such as the TWS wireless earphones and smart watches is still expected to remain solid. And so we expect sales to increase around growth markets, such as wearables.

[Interpreted] And that completes our conference call. If you have any further questions, please forward them to our IR team. Thank you very much.