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

Hello, my name is Ahmed Aljiffry, I'm the Investor Relations Manager for Saudi Aramco Base Oil Company. And I would like to welcome you all to this audio webcast, where we will be discussing our first half results for the year of 2024. I'm glad to be joined today by our CEO, Mr. Samer Al Hokail and our Acting CFO, Nasser Gama. Our webcast today will consist of a presentation highlighting our H1 2024 performance followed by a dedicated Q&A session. I would like to remind everyone that this webcast is being recorded. Before we dive into the presentation, I would like draw your attention to our cautionary statement, in today's presentation we may make forward-looking statements that refer to estimates, plans and expectations, actual outcomes may differ materially due to factors stated in this slide. With that out of the way, I will hand over the call to Samer.

Thank you, Ahmed. Ladies and gentlemen, thank you for joining us today at our earnings call covering our performance for the first half of 2024. Our focus on operational excellence has enabled us to generate shareholder value, even in a normalized base oil margin environment. We remain steadfast in our commitments to safety and operational excellence, as evidenced by our industry-leading Total Recordable Incident Rate of 0.0 and a Mechanical Availability of 99.6%. This unwavering focus has been recognized by Saudi Aramco in the Saudi Aramco President's affiliate awards where Luberef has won the awards for the best performance in safety and best performance in maintenance and reliability. Our transformation journey continues to yield positive results. The HVGO line is progressing as planned, with pre-commissioning underway and expected online date in mid-August this year. This project will not only optimize our Group II offering slate but also will enhance the utilization of our Group I train in Yanbu. We are excited about our growing partnership with Valvoline. As we are currently meeting 80% of their base oil requirements in the Middle East and Africa. We further enhance our collaboration through the signing of an MOU to construct a blending plant in the LubeHub. Moving to technology, we have signed a research agreement with KAUST spin off company Emerging Solutions Commercial Company to evaluate the utilization of the ground-breaking uODS technology in the base oil related applications, this technology has the potential to generate some unique opportunities to Luberef. To address rising freight costs, we have signed strategic agreements, including an agreement with DHL to leverage Etihad Rail for faster and more efficient deliveries to the UAE and a long-term agreement with Uni Tankers to secure competitive freight rates. Looking at base oil crack margins, our normalized crack margin in the first half of 2024 was approximately SAR 1,800 per metric ton, which is within the 3% of historical average. While there was no impact from imported feedstock in the second quarter, higher feedstock costs pressured base oil margins. We remain committed to our core principles of safety and reliability operations while diligently managing costs to maintain our position as a low-cost producer. We are closely monitoring market conditions and will continue to adapt our strategies accordingly. In conclusion, Luberef delivered strong operational performance in the second quarter, characterized by a steadfast commitment to safety and efficiency. Our strategic initiatives, including the HVGO project and strategic partnerships, position us for continued growth and value creation. While market conditions remain dynamic, our focus on cost management and operational excellence enables us to navigate challenges effectively. We are confident in our ability to deliver sustainable value to our shareholders. I will now turn it to our Acting CFO, Mr. Nasser Gama, who will provide a detailed walkthrough of our financial results and additional insights. Thank you for your attention.

Thank you, Samer. I extend a warm welcome to you all, and I am delighted to guide you through our H1 2024 financial results and provide insights into our guidance for the rest of the financial year. We will wrap up with a dedicated Q&A session to address any questions. Looking at our H1 numbers, sales volumes are slightly higher than last year's first half at 607,000 metric ton. Crack margins for the first half were lower as spreads have normalized from the comparative period. Revenues for the period are higher on a comparative basis due to higher by-product prices. As a result of lower crack margins, EBITDA and net income dropped by 37% and 40% respectively. Our ROACE at 25%, remains industry-leading in a normalized environment despite being lower than last year. Operating cash flow is coming in at a healthy level of SAR 959 million supported by working capital changes. Overall CapEx level are at similar levels to last year, with sustaining CapEx higher than the comparative period, primarily due to the spending of the new catalyst and ongoing transformation-related CapEx. Our cash conversion is 124% because of a positive working capital change. Before we move to the net income analysis, I would like to highlight that we are still maintaining a negative gearing ratio even after paying healthy dividend of SAR 5 per share for the second half of last year. Looking at our 2024 H1 performance in comparison to the same period last year, we can observe the impact of the lower crack margin for both base oils and by-products on the net income. However, higher volumes had a positive impact. To mitigate the impact of lower crack margins, we're aiming to increase our volumes utilizing our advantage position in terms cost of production and unique feedstocks available to us. With the commissioning of the HVGO line we aim to improve the utilization of our Group I train in Yanbu, as we optimize our Group II offering slate. Walking through the rest of the elements of the waterflow chart, our OpEx remain lower than the comparative period. Zakat and tax was lower mainly due to lower net income. Moving to the cash flow analysis, we were able to maintain a healthy level of cash generation which has resulted in a healthy cash balance even after paying as healthy dividend for the performance of second half of 2023 and paying down half of our loan. For the remainder of 2024, our primary focus will be on meticulous cost control and maximizing asset utilization. Through operational excellence, we aim to sustain and enhance shareholder value. Now I will hand over to Ahmed to start off our Q&A session.

Thank you Nasser. Now to start off our Q&A. [Operator Instructions]. Rezende, you can proceed to ask yourself.

I'm from Morgan Stanley. So I have two, if I may. The first one is about, diesel cracks that declined recently and normalization is expected to continue. And how would base oil crack margins behave in such an environment? And the second one is about margin for Group I. We have spoken a lot about margins for Group II and Group III. And what are your expectations for Group I margins going forward?

Go ahead Samer Abdulaziz.

Thank you, Rezende for the question. Well, well said. I'll just briefly probably give the dynamics of the crack margins versus what we see in diesel cracks. Usually it lags. There is a lag between what you see in the fuels, especially maybe crude oil as well with the base oil volumes. I know in recent reports, some of the consultants are forecasting base oil margins to become a bit more flat, slightly maybe declining to the rest of the year. But I think what we need to focus is the feed cost stocks that have been rising over the past first half. What we are seeing now is actually in decline. More details can be weighed by the CFO. Nasser, if you have additional information on that, please convey them.

Yes. Actually, the base oil recent report, consultants are forecasting for base oil prices to be flat to slightly decline for the rest of the year, as mentioned by Mr. Samer. However, the severity of the region will be higher when compared to our region as the premium of diesel is much higher in the U.S. and Europe. However, it remains to be seen how base oil market will react to the recent market volatility. With regard to the high sulfur fuel oil, consultants were expecting a drop around $60 to $70 per metric ton to observe the first quarter. However, the current market dynamic has already resulted in a drop of around $50 to $70 per metric ton. This was mostly due to lower importation from China, more tenders coming out of the region.

Thank you, Nasser. [Operator Instructions]. [Indiscernible] kindly unmute yourself and proceed to ask a question.

Hello, yes, this is [indiscernible] Al Rajhi Capital. Thank you for the presentation and congrats on the second quarter results. I have a question regarding your dividend payout during the first half of this year. As you can see, as you mentioned, the announcement that your tax rate was relatively about $480 for the first half of this year. While if we compare it to the previous half of second half 2023, it was relatively the same, yet the dividends per share decreased from SAR 5 to SAR 3.6. And on your announcement, there is an available net cash of approximately SAR 1.64 per share. Can you elaborate more on that? And how should we look at dividends into the second half of this year?

So the question is mostly about the recently announced dividend and how does it follow with the dividend policy since the announcement is lower despite similar?

Okay. Thank you for the question. As you are aware, the framework is 60% to 80% of free cash flow, as well as that, this is more of an annual base rather than a semi base. So the expectation is the crack margins and the feed actually stock cost is reduced and the crack margins, of course, hopefully at the end of the year slightly above, then yes, we will go back to 80%, but the framework still is there 60% to 70%. It's a performance linked dividend policy. I think which is very important is, we're always committed to create value for the shareholders and continue distributing products to ensure achieving the optimal balance, actually between meeting shareholder needs and investing in the company for growth. So, there is a growth engine, that is being played now and looked at, at the board level and at the shareholder level that hopefully, at end of H2, we will proceed with that. So it's more of a balance between healthy dividends and then and growth. Nasser, if you have additional information, please share it.

Yes, the dividend for the first half of 2024 is an interim dividend. We remain committed to create value for shareholders and continue distributing profit to ensure we are achieving the optimal balance between meeting shareholders' expectation and investing in the company's growth.

Okay. Thank you, Nasser. We have a written question from Matti. I think Matti is from Aloha Capital. I'll read it out. I see that your margins have been weak in Q2. Did you import fuel oil from overseas in the second quarter of 2024? The reason I'm asking this is, you expected a similar area in Q1 due to fuel oil imports due to the Saudi Aramco shutdown. And in the second quarter, net income improved only by SAR 60 million quarter-to-quarter, while sales was much higher. So there is definitely some increase in costs and explained by margin evaluation. So, emphasis on the Crack margin for the second quarter when compared to the first quarter?

Ahmed, you can take this question.

Okay. So there was no impact on the -- no imported feedstock in the second quarter. However, when you look at the feedstock costs, Q1 to Q2, the majority of the price increase in feedstock cost happened from the middle of March onwards and they sustained all the way through Q2. And that's why you had a pressured impact. Otherwise, there is no impact and the volume increase quarter-to-quarter as you highlighted, this is 25% and you see that in the net income where you have a 25% increase in net income as well as revenue when you compare sequential quarter-to-quarter. There is no follow-on from you, Matti. If anyone is willing to ask a question. We have [indiscernible].

A couple of questions for me, please. First, I think you mentioned in the past that there may be other avenues for growth beyond growth to project if you find feedstock within Aramco System. Has there been any updates about that? Do you have any ideas of what that could be potentially? And then secondly, when talking about dividend policy, you don't have much of a leverage at the moment. And if is it possible that you might deviate from that policy, let's say, for whatever reason, you don't have enough of free cash flow to maybe sustain the same level of payouts in this situation? Is that possible that you might do that, deviate from the post and maybe pay a bit more?

So the first question is regards the other opportunities we have to improve the utilization of the assets, for -- from alternative feedstock to Saudi Aramco. And the second question, if you can just clarify, do you mean deviate on the higher or lower side? What type of deviation are you thinking of [indiscernible]?

On the high side, of course.

Okay. Thank you, [indiscernible]. Maybe on the first question, yes, we are looking at Aramco System, tremendous always and iterating on that. There is currently a look project of actually a feasibility study that has been launched on a certain project within the Aramco system, that is geared more to Group III, and the feasibility study and the economical study will come in, I hope, within the next couple of months, for it and the location of it. So these type of projects are ongoing. Pretty much the growth is more of a sequence of projects within the Aramco system, and we are looking also outside as well. So on that case for the growth and maybe Ahmed can elaborate more on the current project. On the dividend policy, we have no absolutely no intention to deviate from the 60 to 80 for the next at least couple of years from now, or at least for this year.

Thank you, [indiscernible]. We have a typed question from Abdullah Al Wahhabi. Do you witness any curtailment from Aramco during the first half of 2024? So I'll take that on. The only curtailment that we face is due to the facility in Yanbu being shut down, which we highlighted and we covered by the importation of feedstock. Otherwise, Saudi Aramco have always been a consistent and reliable supplier and supplies have always been delivered on time. [Operator Instructions]. Mr. Fawad Khan, kindly unmute yourself and ask your question.

Hi, it's Fawad khan from Alinma Investment. I have couple of questions. Number one, you mentioned about the projects being outside KSA or outside the current regime. So what kind of projects are you looking at? Whether it's going to be, just a blending facility or some other kind of project you are looking at? Number two, if you can give us some colors on the local demand of a base oil, this year and the outlook for the next few years?

So the first question is regarding other opportunities outside of Kingdom Saudi Arabia. And then you have a second question regarding local demand for base oils.

So thank you, Fawad for the question. Basically, our strategy is to look at a higher capacity production, it would be within Aramco system and within the outside of Aramco system. So if there's a production with storage facility that we are looking at, then, yes, that might be actually a great idea, because it's closer to our clients and customs. Group III, Group II are the focus. Group I is very well ingrained in our facilities here in between Jeddah and Yanbu. So that's the answer. And there are some, maybe supply agreements, that we are able to study and find if there's material out there. So these are the type of project. Now blending facility you mentioned, I think the Lubehub is worth mentioning that you have seen. Lubehub is where we would localize in kingdom the industry itself. And part of it, there is a blending facility, and there might be an opportunity there to have some stakes within that Lubehub. There we're still looking at that as well. In terms of the demand, maybe, Ahmed, you can answer this question or no?

With regards to the domestic market, the domestic market is stable, and we produce and sell 30% of our production to the domestic market. And we have to enhance and increase the domestic market after launching the Lubehub.

Hope that covers the question. So we have another question for Mr. [indiscernible]. Kindly unmute yourself and proceed to ask your question.

This is [indiscernible]. I had a question on your shutdown. So you would deferred the Yanbu shutdown to 2025. Is that still the case? Are you planning to bring it forward or delete? Just any update on that shutdown, and how long will the shutdown be?

So the question is around the Yanbu turnaround, which we announced to be pushed towards the middle part of next year. Okay. I'll take this one. So the turnaround is still planned for the middle of next year, and we aim to optimize the number of days to make sure we execute a lot of the project scope for Group II and minimize the overall number of shutdowns we have over this coming period. Now the shutdown days currently are penciled in at around 45 days. However, the team is working proactively to try and optimize and minimize these number of days for shutdown.

I think I might add, [indiscernible] what a well-crafted question is, we do have within Luberef storage, emergency storage in case of the Yanbu going down, but not for that amount of time. So what we do is if that prolongs, then, yes, we can import feed and leverage it with our storage capability within Luberef. And there might be also a project of looking at enhancing that storage capability to give us more longer time if needed.

So we have a written question from Abdullah [indiscernible]. Can you shed some light on the realized premiums between different regions? So generally speaking, Abdullah, we don't give specific disclosures on different regions, because we have different agreements with different customers, which have different metrics within the formula. Generally speaking, we follow the Asian based oil index for export sales and this is why we publicized it on our website in our base oil index. So this will give you the best idea of how prices are within our region. When we face pricing pressures, we have recently started the Africa strategy, where we started to shift some volume from India, where we saw some price sensitivity to Africa. However, as we enter Africa, we try to be careful because of financial risk. So the way we penetrated Africa is through two approaches. The first one is we deal with IOCs. So you deal with the majors who have facilities in Africa. And the second approach is that we deal with renowned traders we would sell at full export price and they would sell it in the region at break bulk. This way we get, since they have good financial credit rating, we get our net pack in full and they would make the break bulk premium. Even though within these contract if their break bulk premium exceeds a certain age, there is a profit sharing arrangement in there within that agreement. Hope that covers your question. So if anyone else would like to ask a question, kindly raise your hand. So we have no further questions. With that, I would like to thank everyone for joining us. We will have this recording available on our website hopefully by tomorrow at the same time. And we'll be looking to meet you all in any upcoming investor engagement conferences. And thank you again.