Saudi Aramco Base Oil Company - Luberef (2223) Earnings Call Transcript & Summary

Hello, everyone. I am Ahmed Aljiffry, the Planning Performance and Investor Relations Manager for Saudi Aramco Base Oil Company, Luberef. I would like to welcome you all to our audio webcast where we'll be discussing our 2023 annual results. It gives me great pleasure to have with me our CEO, Engineer Samer Al-Hokail; and our CFO, Mr. Mohammed Alnafea. Our webcast will consist of 2 sections. First, the presentation highlighting our 2023 results and then will be followed by a Q&A session. We expect the whole webcast to last up to an hour. I would like to remind everyone that this webcast is recorded and will be available on our website by tomorrow. Before we dive into the presentation, I would like to draw your attention to the cautionary statement. During today's presentation, we may make some forward-looking statements and refer to estimates plans and expectations. Actual results and outcomes may differ materially depending on the factors stated in this slide. With that out of the way, I would like to hand over the call to Engineer Samer.

Thank you, Ahmed. Ladies and gentlemen, thank you for joining us today at our annual earnings call. I'm pleased to share with you the remarkable achievements and financial performance of Blue Bird over the past year. Firstly, we have achieved an all-time record in both production and sales, solidifying our position as the market leader with over 70% of sales in the GCC region as we greatly benefited from our strategic proximity to key end markets. The safety of our people is paramount. Over the last several years, we've experienced more than 35 million man hours without any safety incidents, reflecting our commitment to our workforce well-being. Furthermore, we have continued to uphold our standards of operational excellence, maintaining a top quartile in mechanical availability of 99.6% and above industry average utilization of 91%. These achievements underscore our dedication to operational efficiency and reliability. Aligned with our ongoing commitment to environmental, social and government's ESG principles, we have successfully reduced flaring by 4% year-over-year and an impressive 75% compared to 2021. This progress demonstrates our dedication to sustainability. We are further strengthening our commitment by developing a comprehensive ESG strategy to enhance our environmental and social contributions. We've made significant progress in our transformation initiatives, increasing feedstock allocations, optimizing product pricing and reducing costs through the commissioning of the [ Jiter ] utility. These efforts directly contribute to our profitability. Moreover, our commitment to growth is further solidified by our progress on the growth projects with the EPC contracts signed. This project will establish Luberef as the region's sole producer of the full slate of mineral base oils for our customers, while also providing the flexibility to adjust Group 2 and 3 offering based on the most favorable netbacks. Moving on to our financial performance. We have recorded the second highest net income in our history, amounting to around SAR 1.5 billion. This figure, while 24% lower than the previous year was largely influenced by lower base oil crack margins. Additionally, our EBITDA reached an impressive SAR 1.9 billion, underscoring our financial resilience and stability. Despite operating in an inflationary environment, we successfully reduced our cost of production to SAR 392 per metric ton, marking an 11% decrease compared to our previous year. In light of our strong performance, we've managed to reduce our balance sheet gearing to negative 1%, reflecting our prudent financial position. Additionally, we have maintained a high return on average capital employed, ROCE of 30%, emphasizing a robust financial performance and shareholder value creation. We have achieved operating cash flow of SAR 2.5 billion and free cash flow of SAR 2.1 billion, representing an all-time high for Lumin. In alignment with our commitment to shareholders, we have delivered a dividend of approximately SAR 1.7 billion, surpassing our guidance by 50% and aligning with the maximum range of 80% of free cash flow as per our established dividend policy. This represents the highest dividend per share in the Saudi market in 2023 and resulted in a total shareholder return of 65% in 2023. In conclusion, I am pleased with the outstanding performance and progress we have made across all aspects of our business. I will now turn it over to our CFO, Mohammed Alnafea, who will provide a detailed walk-through of our financial results and additional insights. Thank you for your attention, and I look forward to our continued success.

Thank you, Samer. Welcome, everyone. I'm delighted to guide you through our 2023 financial results and provide you insight into our 2024 guidance. We'll wrap up with dedicated Q&A session to address any questions. 2023 was a great year for Luberef as we leveraged our unique position as a high-margin downstream player and maximized our returns. Luberef benefits from advantaged value position, which results strong financial performance for our shareholders. By transforming low-cost raw material averaging around SAR 1,600 per metric ton into premium base oil at the price of SAR 3,700 per metric ton and maintaining operational costs at around SAR 392 per metric ton. We achieved a lucrative crack margin of SAR 2,068 per metric ton, equivalent to over $75 per barrel. It's worth highlighting that if we exclude the 2020 COVID impacted year, Luberef's average base oil crack margin has been SAR 1,940 per metric ton in the last 10 years. The 2023 margin is just 6% higher, signaling a return to our historical average. To showcase the company track record of value-added growth when compared to 2017 to 2023 has relative similar margin, yet the company transformed significantly. The production of base oil more than doubled. The start-up of Yanbu project and disciplined cost management resulted in 44% reduction in the unit cost. Strong growth in net income and operating cash flow was recorded, exceeding 200% and 300%, respectively. The product mix quality improved significantly by reducing the proportion of Group I base oil, excluding right stock. These advancements were realized together with a 50% cut in CO2 emission intensity. This reflects significant progress in high-grading our assets through advantaged projects and transformation program. Moreover, the company is pursuing further expansion through Growth II and other potential programs are being studied. In 2023, the company financial performance demonstrated good margins, robust cash conversion and exceptional return on average capital employed. Despite lower prices and crack spread, the company still achieved significant revenue of approximately SAR 9.5 billion. Net income witnessed a reduction from the previous year at around SAR 1.5 billion, slightly mitigated by increase in sales volume. Our leadership ROACE highlights the company efficiency and profitability in utilizing its capital. Additionally, our free cash flow experienced a significant uplift due to the cash generation from our operation and improved working capital management. We excel at transforming our profit into actual cash as is observed in our high cash conversion. In addition, our negative gearing confirm our strong financial standing, reflecting a solid balance sheet. This placed the company in a strong position for steady growth and financial strength. As we analyze the variance from Q3 to Q4, we see mixed impact in our net income with a decrease from SAR 340 million to SAR 269 million. The base oil contributes positively with an increase of around SAR 70 million, thanks to higher prices and volumes. However, this was offset by other factors, including SAR 44 million decrease in byproducts and margin and higher external feed costs of around SAR 60 million anchored during the Saudi Aramco Yanbu refinery turnaround. In 2023, income decreased by about 24% due to lower margins on the base oil and byproducts and the cost related to using external feed. Lower taxes, interest costs and increased base oil volume slightly offset these reductions. Due to solid income and improved working capital, we experienced strong cash flow from operations. And with low CapEx spending, we generated a record high free cash flow, which supported a generous dividend distribution and increased our cash balance compared to the beginning of the period. The company has delivered value-added growth and has the potential to grow further. Last year, both [ Chida ] and Yanbu combined had a capacity of 1.3 million metric tons and production of around 1.25 million metric tons. With the Growth II and transformation initiatives, we are on track to exceed 1.6 million metric ton on Yanbu alone. A low complexity projects with a minimum capital spending result in 30% production growth compared to 2023. This expansion positions us to enhance and sustain our dividend capacity, projecting the capacity to distribute dividend of up to SAR 11 per share compared to previous SAR 8 per share based on 10 years average historical track. In addition, the company is actively assessing several growth opportunities that promise value-added expansion, particularly in Group III and Group III+ markets. For in-depth look to Yanbu expansion and its potential by 2026, please refer to the appendix, which provide you detailed insights into Yanbu future capacity. Now I would like to take you through our 2024 guidance, which summarize our views operationally and financial performance. In terms of base oil volume in 2024, we expect mid-single-digit percentage growth versus 2023, mainly driven by transformation initiatives. Domestic market expect to account for around 30% of total base oil volumes. Moving into base oil prices and crack spread. Product prices are calculated using a benchmark price and adding premium with the key benchmark used for product pricing as follows: domestic based on the Asian benchmark, exports based on destinations. Domestic price premium for base oil products is expected to be in the range of SAR 375 to SAR 750 per tonne. Company intend to maximize price premium for exports. Feedstock price is expected to continue to be in line with the high sulfur fuel oil. We anticipate capital to fall within the following range: maintenance CapEx from SAR 80 million to SAR 100 million annually, growth CapEx from SAR 150 million to SAR 200 million annually. The company reassessed the useful life and residual value of its assets to better reflect the estimated period during which these assets will remain in sales. As a result, the annual depreciation charge will reduce by around SAR 44 million. In addition, we are planning to proceed with the repayment of SAR 938 million of our debt. This will not only strengthen our financial position, but also generate significant savings of approximately SAR 23 million in zakat and additional SAR 5 million in interest cost savings in 2024. Moving into dividend. The Board of Directors have recommended a dividend payout of SAR 5 for the second half of 2023. This is subject to the AGM approval. And for 2024, dividend distribution, our plan to be in line with the announced dividend policy of 60% to 80% of free cash flow. In regards to turnaround and shutdown, our Yanbu facility has completed a catalyst replacement, which required a 15 days shutdown during Q1. This was a scheduled outage as the catalyst has completed its expected operating life. Our planned Yanbu turnaround has been moved from the end of 2024 to 2025 to align with the growth 2 project tie-in activities. Moving now to other consideration. We estimate the remaining volumes of onboarded feedstock to have an impact of around SAR 50 million to be observed in the first quarter of 2024. As for the Red Sea situation, for the time being, we have not been impacted materially, and we have mitigation plans in place in the event the situation escalates further. In the event all mitigations are required to be activated, then the anticipated cost impact on Luberef will be in the range of around SAR 75 million annually. In conclusion, 2023 was a great year for Luberef in many ways. We look forward to the future with a confident and with the clear objective to safely deliver high returns to our shareholders. Now I will hand over to Ahmed to start off our Q&A session.

Mr. Ricardo kindly unmute yourself and ask your question.

Two things on my side, if I may. The first one on the base oil crack margins when you compare the recovery from the third quarter to the fourth quarter, I just wanted to check on how much of that -- of the margins were impacted by you having to get external feedstock to your plants? And then on the second question, if you could just please comment what's your view on the supply or capacity addition from competitors for Group II and Group III in the coming years?

So it's a 2-part question. The first one is relating to the crack margin impact from the imported feedstock in Q4. And the second portion is regarding supply-demand dynamics from base oil supplies coming live in the market.

Yes, especially for Group II and Group III.

Thanks, Ricardo, for the question. This is Sam, the CEO. Just a quick maybe context on Q3, Q4, the alternative feed. The market, I would say, there was a shutdown on the supply side, which is a planned shutdown from Yanbu refinery that provides feedstock to Luberef at very competitive prices. The options we had is either we slowed down, which is no option, or we source feed from outside, which actually opened a lot of doors for us to tap along through our trading partnership and able to come up with feedstock that continues that utilization of Yanbu refinery or Yanbu -- Luberef area. Of course, that feedstock had an impact because it is a bit more expensive than the regular feedstock we have. But if you look at the alternative itself, it would have been a difficult concept to swallow, honestly. So therefore, we continue to make that decision with a mix of feedstock between a blend of Riyabh and blend from Basra area to make that blend and to continue that continuation of Yanbu/Luberef. In terms of the numbers itself, I'll turn it to -- it's around maybe, I would say, 530, 530 are the crack on that. On the second question in terms of the forecast, I'll turn it to the CFO for his input.

Thank you, Ricardo. So as mentioned, so the [ crack ] in the fourth quarter would be 530 instead of 480. So what we reported in the press release, 480, and we were looking at 530 if we are not importing the new feedstock. And today, Lid is around 550 as we speak, the crack today is 550. Now for additional capacity, we are aware of expansion that may take place in '25, '26 with [ Exxon ], it's major expansion in Singapore. Also, we are aware of additional capacity in India, but we are not certain about the start-up date.

[Operator Instructions] Mr. [indiscernible] kindly unmute yourself.

This is [indiscernible] Capital. Congratulations on the results and a significant proposed dividend. My question is regarding the operating expenses. During the fourth quarter, we've seen surges in the OpEx level. Can you elaborate on that? Do we see it as a seasonality or there was some one-offs during the fourth quarter?

Regarding the OpEx expenses from Q3 to Q4 and whether the change is seasonal or there are one-off items, CFO?

Yes. Thank you, Saud, for your question. Now if you compare Q4 to Q3, especially in the G&A expenses, the increase because Q3, we had to adjust some provision. If you remember, we had the provision in Q1, Q2 for bad debt, but we managed through excellent effort to resolve this issue. So there was a reversal in Q3. That's why the number is around 27 million in Q3. Now when you look at the number in Q4, it's around it's in line with the average in general. There are some seasonality element, I agree with you in Q4, but we are putting a lot of great efforts in controlling costs. We showed in the presentation, unit costs went down by around 11%. Part of it is volume associated, part of it because of utility reduction in Jeddah. We are also looking at multiple initiatives to reduce OpEx and sustain our best-in-class situation when come to the cost leadership.

Next, we'll go to Mr. [indiscernible]

Congratulations on your results. I have 2 questions. First is, out of your volumes of 1,251, can you give us a breakdown between Grade I and Grade II? And how flexible are you in switching between these 2 grades? First question is that. And secondly, can you quantify your current capacity in tonnage? So you have added 3 additions you have had in the last year. So we know in terms of 1 million barrels per day. But if you can just quantify your current capacity in tonnes? These 2 questions, please.

We would like to have a breakdown of our production in terms of Group II and Group I base oils in terms of our sales. And you would like to have a [indiscernible] capacity.

Yes, please.

Okay. I will take that question. So in terms of flexibility between Group I and Group II, Jeddah, which is our main production for Group I is operating at near max capacity at 95%. So we get 270, 275 in a year where there is no turnarounds. This is where you get your grade Group I, 150 and 500 Sm. And it supports Jumbo in producing the bright stock, where we send the interim product from Jeddah, the intermediate product to Yanbu because the asset in Yanbu has better throughput and better yield in producing bright stock. In terms of Group II, the split in terms of sales is 34% Group I and 66% Group II. In the annual report, which will be released in the coming week, you'll have a breakdown of our annual base oil sales in both Group I and Group II. In terms of capacity, as you've seen in the slide, the Group I Group II train has a maximum capacity of 910,000 metric tons annually. This is after the great work by our engineering team to debottleneck and the operation team to debottleneck our Group II train. Now the allocated feed we have is above that capacity, and so it gives us the luxury of optimizing our slate. And this is where the HVGO comes in because it offers us the heavier grade, which is what is more desired by the market because the market is typically light -- long in the light end of the Group II trains. Hopefully, once the -- we proceed to the Q1 earnings call, we plan to give better guidance on how HVGO consumption comes in and how it can be factored in your modeling for the operating year. I hope that covers.

Also, I would like to add, when it comes to Group I production, we are more focused on the price stock, which is very expensive product with a high crack margin. Just to give you some idea about the difference between [indiscernible] grades, we -- the crack last year was above $650 for Bright stack. It's a premium product that Luberef is focused and specialized in producing. We actually supply 10% of the global demand for bright.

Any follow-up?

Yes, I'll get back in the queue. I have one more question.

We'll move to Mr. Oliver Conor.

Two from my side. First one, just thinking about the long-term role of Jeddah as a facility. Obviously, you've talked about closure there, but it feels like the refining complex and the base oil complex looks pretty supportive, as you say, especially in the Group I space. So just wondering if you have any updated thoughts about how you look at that asset going forward? And then the second question was more on sort of visibility on that expansion potential in Yanbu? I mean you mentioned the VGO allocation. And I think you talked about trying to get some USIO to top up to get you towards potentially that 1.6 million. So any guidance there on when you think you might have visibility on agreements to secure that potential growth at Yanbu?

So 2-part question. The first question around the Jeddah continuity and how -- what's the status on that? And the second question is regarding our Yanbu potential and what we are targeting with the 1.6 million metric tons.

[indiscernible] This is Sam, CEO. No decision has been made yet, and we remain in dialogue with our shareholders and our majority shareholder, Saudi Aramco on the fate on Jeddah on that area. In terms of growth in Yanbu [indiscernible] we are planned to do that hopefully by end of '25, beginning of '26, which is an increase of roughly 300,000, let's say, 300,000 metric tons, but maybe more or less, which allows us to produce Group III, but not only that, but allow us to have the flexibility to alternate between Group II and Group III. You've heard maybe announced last month our agreement with SAMREF to supply us with material around 3,000 barrels of feedstock HVGO per day, and that is subject for their product availability, which we hope they are available on that. That will be hopefully materialized soon. The agreement has already been signed, and we will get these barrels and process them with our Yanbu facility.

I would like to also ask you to look at the appendix. There are one good slide that highlights Yanbu potential and shows the availability of capacity in the multiple unit and what kind of stream that we can import within Saudi Aramco system that will maximize the value. The target is to reach 1.6 million metric tons after the growth 2 and implementing all synergy.

Okay. Any follow-up Oliver? Now we'll move on to Mr. [indiscernible]

I wanted to ask your view on your byproducts margin. So when you showed the bridge between 2022 net income to 2023 net income, roughly 10% of the downfall is coming from just byproducts. Can you share some color on this, like why has this gone down? And what can we expect for the next year?

So the question is focusing on the byproduct impact on our profitability and how does it impact our business in coming 2024?

Okay. So same principle that we highlighted before during the IPO process that byproduct is really doesn't matter when you look at the big picture in longer term. So in last 2022, the crack for byproduct was around $26 versus $650 for the base oil. This year, it's around $6 versus $550 for base oil. So it's really negligible. Now -- but when you look at the quarterly results, this may -- you may see some gain in quarter, some reduction in other quarters. I would just highlight why you see some reduction in Q4, especially in the byproduct because if you look at the prices of fuel oil, the feedstock that we purchased from Saudi Aramco, in September, for example, it was around $530 per metric ton. And today, we're talking about $420. So this step reduction, especially if you look at compare September, for example, 530 with October 460. So what happened, you purchase expensive feedstock, you process it and you sell it back, part of it fuel oil and asphalt price almost similar to the feed cost price. So you sell it back at lower prices. So this is what is happening in quarterly sometime when you see significant reduction in the feedstock. But fundamentally, this is good for business because you -- if your feedstock prices goes down, is really good, but you see some differences between the quarter. And this is one of the things that happened between Q3 and Q4.

I'm sorry, can you please share the numbers again for 2022 and 2023? You said...

So it was $26, if I recall correctly, for 2022. For this year, it's $6. But you see, for example, H1 2023, there was a big gain in the byproduct because the prices was going up and the Q3. And then you have losses in Q4 and the byproduct because you -- the prices is going down. It's mostly -- it's a timing because still the same principle apply that byproduct really doesn't change the full picture when you look at full year or 2 years of the company performance. But methanol is the base oil crack. Now between quarters, you see some unusual trend. When you see a significant decrease, you see good gains. If you see a significant reduction, you will see some reduction in your profit margin because of losses in byproduct.

And Mr. Akash, if you want to see the byproduct crack margins, you'll see them in the annual report. So last year's is in last year's annual report and for 2022 and 2023 will be released next week, and you'll see it there in the annual report as well. [Operator Instructions] Okay. If no further questions, I would like to thank everyone for coming in. And if you have any follow-ups or follow-ons, please do reach out to the IR team either through our IR e-mail or you can contact us via our IR hotline or contact any of the team personally, and we'll make sure we take in your queries. We look forward to seeing you again either in our next engagement or our next earnings call. And thank you, everyone.