Subsea 7 S.A. (SUBC) Earnings Call Transcript & Summary

Good day, and thank you for standing by. Welcome to the Subsea 7 S.A. Q2 2022 Results Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Katherine Tonks. Please go ahead.

Welcome, everyone. With me on the call today are John Evans, our CEO; and Mark Foley, our CFO. The results press release is available to download on our website, along with the presentation slides we are referring to during today's call. May I remind you that this call includes forward-looking statements that reflect our current views and are subject to risks, uncertainties and assumptions. Similar wording is also found in our press release. I'll now turn the call over to John.

Katherine, thank you, and good morning, everyone. I will start with a summary of the second quarter of 2022 before passing over to Mark to cover the financial results. Turning to Slide 3. In the second quarter, Subsea 7 delivered a strong performance in Subsea and Conventional, whilst Renewables was in line with expectations we communicated in June. Both our core markets improved during the quarter. In Subsea, the industry supply chain challenges stabilized and tenders progressed, resulting in an order intake of $2 billion and a book-to-bill of 2.1. In offshore wind, pricing and risk allocation have improved for recent tenders, and we are preferred suppliers for projects worth over $1 billion. Turning to Slide 4. In the second quarter, we continued our sustainability strategy with a successful trial of biofuels on the Seven Oceanic. We are happy with the performance of the biofuels and are working with suppliers to evaluate how such fuels can be deployed at scale on a global basis. Turning to Slide 5 and an update on our largest contracts. In Turkey, the fast-track Sakarya project has reached 50% progress. Most of the procurement is complete and deliveries to Turkey are on track. Shallow-water pipeline commenced in the quarter. In Brazil, we continue to manage fabrication for the Bacalhau project, and we are preparing for offshore operations starting later this year. At Mero-3, procurement has commenced. Additionally, our vessels were busy in the Gulf of Mexico on projects, including Anchor, Jack St Malo, Mad Dog 2 and Vito. In Renewables, we had installed 30 foundations and 21 tables for the Seagreen project by the end of June. Of the 114 jackets, 94 have been developed for U.K., and the remaining 20 are currently signed off and ready for load-out from China. We remain on track to complete the work later this year. We also made progress installing cables of our second floating wind project, Hywind Tampen. Turning to Slide 6, and I'll give you an update on the Renewables contracts that we discussed in our trading update in June. Both Formosa 2 and Hollandse Kust Zuid have made good progress against our revised schedule. To date, 90% the installation scope for Formosa 2 and 67% of Hollandse Kust Zuid is complete, and they are on track to hand over to our clients in August and September as planned. As we announced in June, Seaway Strashnov will be completed for the summer campaign of Dogger Bank A and B in 2023, replacing the Alfa Lift. The increased installation time and extra costs associated with using the Seaway Strashnov were reflected in June's guidance. Next, turning to Slide 7. Last quarter, we outlined our strategies for managing supply chain challenges related to raw material inflation. In the past few months, pricing has stabilized, albeit at a higher level, and an all tendering process has resumed. Our strategy, taking back well before 2022, has been to protect our margins through back-to-back contracts, index-linked pricing and escalation mechanism. Wage inflation is also something that we are monitoring closely and have factored into our bids. Throughout this period, our strong collaboration and early engagement with both clients and the supply chain have enabled us to navigate these challenges and continue to successfully tender, win and execute projects. Turning to Slide 8 and the Subsea Integration Alliance. During Q2, we were very pleased to extend our relationship with Schlumberger for another 7 years. As you know, the alliance has been the cornerstone of our strategy to offer integrated projects in Subsea. And thanks to a strong commitment from both sides, it has proven a success. With major awards in Australia, Brazil, Senegal and Turkey as well as tiebacks in Norway and the Gulf of Mexico, our integrated backlog stands at around $2 billion today. We get very positive feedback from clients on this model of contracting, and this is reflected in our SURF tender pipeline, of which 50% relates to integrated projects. The alliance has delivered an impressive performance to one of the industry's most challenging periods, and we look forward to reinforcing the success as the market improves. And now I'll pass you over to Mark to run through the financial results.

Thank you, John, and good morning, everyone. I will begin the financial results with you with some details of group performance in the second quarter before turning to business units. Slide 9 summarizes the strong backlog position at the end of the second quarter. Order intake was $2.1 billion, equating to a book-to-bill of 1.6x. And backlog at the end of the quarter was $7.8 billion, the highest level since 2014. Order intake included new awards of $1.7 billion, including the Búzios 8 project in Brazil, the CLOV-3 project in Angola and the TOPR and Ballymore projects in the Gulf of Mexico. These 4 new awards are attributable to the Subsea and Conventional business unit. In Renewables, it was announced that Seaway 7 was a preferred supplier of the East Anglia THREE and the Seagreen 1A projects. These 2 projects have a combined value of over $1 billion but will not be recognized in backlog until final contractual terms have been agreed and final investment decisions have been secured. Escalations of approximately $400 million, comprising variation offers and contractual price escalations across several projects were largely offset by changes in foreign exchange rates mostly due to the weakening of the Norwegian kroner and the Brazilian real against the U.S. dollar. This had an adverse impact of approximately $300 million in backlog. $2.5 billion in backlog is expected to be executed over the remainder of the year and $3 billion in 2023. Turning to Slide 10 and the headline results for the group. Revenue was $1.2 billion, broadly flat year-on-year as we continue to execute our large EPCI projects in both Subsea and Conventional and Renewables. Adjusted EBITDA of $134 million was up 48% compared with the prior year period, and the margin increased to 10.7% from 7.5%. I'll discuss the drivers of this change at the business unit level on the next few slides. Slide 11 presents the key metrics for Subsea and Conventional. Order intake was $2 billion, equating to a book-to-bill 2.1x, resulting in a strong backlog of $7 billion. Revenue was $1 billion, up 11%, reflecting good progress on the fast track Sakarya project as well as our other large EPCI projects. Adjusted EBITDA was $171 million with a margin of 17.7%, up from the 10.5% in the second quarter 2021. This higher profitability reflects strong operational performance and benefited from projects completing in the Gulf of Mexico and Saudi Arabia during the quarter. Selective Renewables performance metrics are shown on Slide 12. Order intake in renewables was light at $49 million, taking the backlog to $800 million. As John and I have mentioned, during the quarter, we were awarded preferred supplier status on several projects, and this [ was issued ] the backlog over the next 6 months. Revenue from renewables was $260 million, down 17%, mainly reflecting the phasing of activity on the Seagreen project. The Seagreen, Hollandse Kust Zuid and Changfang and Xidao projects, with notable revenue contributions in the quarter. The adjusted EBITDA loss was $49 million, reflecting charges of $28 million and $34 million in relation to the Hollandse Kust Zuid and Formosa 2 projects, respectively. Excluding these 2 charges, the adjusted EBITDA margin was 5%. Slide 13 shows the cash flow waterfall for the second quarter. Net cash generated from operating activities was $94 million, including a $63 million build in working capital. Cash conversion, measuring the conversion of adjusted EBITDA to adjusted operating cash, was 88%. Net cash used in investing activities was $50 million mainly attributable to purchases of property, plant and equipment associated with vessel dry docks and upgrades. Free cash flow in the period was $42 million. Net cash used in financing activities was $72 million. This included $32 million of dividends paid in May, $27 million of lease payments mainly related to chartered vessels and $4 million related to the share repurchase program. At the end of the quarter, cash and cash equivalents was $464 million and net debt was $88 million, which included lease liabilities of $184 million. The group's liquidity was $1.5 billion, which included $1 billion of committed undrawn borrowing facilities. In June, the group entered into a $700 million multicurrency revolving credit and guarantee facility with a 5-year tenor. The facility is available in a combination of guarantees up to $200 million and cash drawings or in full for cash drawings. At the same time, the group's previous $656 million multicurrency revolving credit and guarantee facility was canceled. Lastly, in March, as part of our commitment to shareholder returns, we announced a share repurchase program of approximately $70 million. As of market closing yesterday, $45 million or 64% of the $70 million are being utilized to repurchase 5.6 million shares at an average price NOK 75.4 per share. Subsea 7 holds 10 million shares or 3.3% of its issued share capital as treasury shares. To conclude the financial review, Slide 14 shows our expectations for the full year. As we announced in June, revenue and adjusted EBITDA are expected to be broadly in line with 2021, while net operating income is expected to be lower for 2021. We have updated our guidance regarding taxation to be between $50 million and $60 million, adjusted upwards from between $35 million and $45 million. The revision is driven by an increased level of activity and higher tax duty [ receptions ]. There have been no other changes to the financial guidance since the first quarter 2022 presentation. I will now pass it back to John.

Thank you, Mark. On Slide 15, we have a reminder of our capital allocation framework that you're probably familiar with by now. In the second quarter, we returned $32 million to our shareholders via our cash dividend. And we continue to progress through our $70 million allocated to share repurchases, which is over 60% complete today. A key part of framework relates to the funding strategy for Renewables. Seaway 7 is making good progress in this respect, and they expect to announce details of their financial structure in the third quarter. And now we'll move on to our usual outlook slides, starting with the prospects in the subsea market on Slide 16. Tendering remains very busy, and we are confident in the outlook for new orders for the group. Three regions, Norway, Gulf of Mexico and Brazil, continue to be the most active markets, but there are early signs of improving activities in other regions with tenders added to this map in the U.K. and Morocco. After the quarter end, we announced our first award in Guyana for Exxon's gas-to-energy project, and we see further prospects in this region. Availability of our rigid reel vessels is tight in 2024 and tightening in '25 and beyond, which is driving improved pricing for our EPCI services. Overall, we are encouraged by the way the recovery is progressing and remain confident in the outlook for Subsea and Conventional. On the next slide, we have our wind prospects. U.K. CFD allocation round, which took place in July after a 1-year delay, has finally unlocked prospects in this region. And Seaway 7 is the preferred supplier on East Anglia THREE and Seagreen 1A. In addition, it is preferred supplier on He Dreiht in Germany and the U.S. wind project. We expect this pre-backlog to convert to firm awards towards the end of this year and early next year, adding visibility to our fleet utilization into 2025. Before I wrap up, a quick look at a different type of project. In May, we published Inspiring People - The Subsea 7 Story, which celebrates 20 years of our company and 75 years of history of the predecessor companies that are part of Subsea 7 today. It is full of stories and photographs taken from our rich heritage of entrepreneurial spirit, adapting, innovation and endeavor. From the industry's first purpose-built pipelay barge, the L.E. Minor, to Angola's first deepwater project at Girassol, the book shares memories and thoughts and insights from our founders and executives who spent their career shaping the industry. The link to the online version is on this slide. I hope you'll read it and enjoy learning more about the people, companies and projects that have made Subsea 7 the world-class energy service contractor it is today. And so to close, we turn to Slide 19. In the Subsea, the post-COVID recovery has been reinforced by the West drive for energy security. Our core markets remain strong, and we are beginning to see the uplift of activity spreading to other regions. Prices are improving, and the supply chain has stabilized. In fixed offshore wind, our prospects are maturing with over $1 billion of pre backlog to be converted to firm orders in the coming 6 months. The market for our services is tightening, and this is driving an improvement in pricing and risk allocation. To conclude, our backlog is at a 7-year high. Our tendering teams are busy, and we are well placed to deliver a combination of long-term growth and capital returns for our shareholders. And with that, we'll be happy to take your questions.

[Operator Instructions] Our first question comes from the line of Kevin Roger.

The first one is related to the Subsea business. So you had a very good performance in Q2, almost 18% margin, what we consider once-in-time as the kind of close to normalized margin at Subsea 7. So would you consider this performance in Q2 as repeatable in the short term? Or you consider it more as a kind of one-off? And the second one is still related to the Subsea. In the presentation, you mentioned that basically the backlog is back to the record level that you had in 2014, so back to the level of that time. So here again, are we, let's say, close to the revival of the performance that you had at that time, please?

Yes. Thank you, Kevin. Thanks for your questions. As we've always said to everybody that follows us, it's best to look at us over a year, and we've guided for where we want to be for the year. So I don't expect Q2's performance to be repeated regularly throughout the rest of the year. We did say in our prepared remarks that we had very good operational performance across the suite of projects that we have as well as some commercial settlements in some regions as we closed out certain projects. In terms of longer term, the position that we're in, yes, we have a good backlog. But I think we have guided a number of times that we expect our profitability to improve from the second half of 2023 and then work its way back towards more normalized positions in terms of expectations for profit. So for us, we are bringing in the backlog, which is good. We will be liquidating it starting back end of this year, and we do expect from the middle of next year to see an improvement in our profitability.

Okay. I understand. And if maybe I can add one, I don't know if you will prefer to keep this question for the call of Seaway 7. But recently announced, the first project in the U.S., transport and installation. I was wondering if you can give us a bit some visibility on how you will execute the project in a way to confront, potentially, the Jones Act, et cetera, because execution in the country can be largely, let's say, damaged by Jones Act, et cetera.

Yes, we can't announce which project it is at the moment because our client has asked to keep that confidential, but it'll be cable-lay work. And again, we have worked on cable-lay activities in the U.S. in the past. We did the main -- demonstrated project in East Coast U.S. a couple of years ago. As you know, Subsea 7, the parent has been in the U.S. for nearly 40 years, so we're very, very familiar with the Jones Act. And our U.S. team has worked very closely with the Seaway 7 team to make sure that we pitch our bid and our offering fully in compliance with the Jones Act.

Next question is from James Thompson from JPMorgan.

Okay. Just a couple of questions from me, please. Firstly, just on the Renewables business, I was quite interested to understand, of the kind of pre-FID projects, what sort of revenue expectations can we expect for them in 2023? And I know you've only got only about $100 million, $150 million of revenues in hand for that division at this point in time, so just to understand how much influence the large projects that are there, and really, how much influence they can have on next year. And then secondly, in terms of your discussions around pricing and the kind of overall environment actually improving for tendering discussions and things like that, I was particularly interested in some of the challenges in the supply chain kind of moderating. John, I was wondering if you could just put some more color behind that really, how sustainable is that improvement and just help us understand where the kind of better conditions are really appearing from a supply chain perspective particularly.

Okay. James, thank you. I'll take the supply chain one first and come back to the Renewables. I guess when we spoke at the end of Q1, the market was still very much bouncing around from the Russia-Ukraine issues, and it was quite difficult at that point to get guaranteed slots and guaranteed pricing in the market to allow us to progress with our clients towards surety on project. What we have seen from about early May was that the relevant markets such as steel and stainless steel and some of the input materials that we need, at least our suppliers and their sub-suppliers were finding a way of being able to give us the surety that we needed. As I said in the prepared remarks, the costs are higher, so this isn't -- the problems have all gone away. Certainly, the costs are higher, but the surety on production slots and availability of materials has become easier from our around early May, which has allowed us to progress to close things like Búzios 8, CLOV-3, as Mark mentioned in his prepared remarks. So it's not all back to normal and all the problems have gone away but there is a way through the mechanisms that I discussed in my prepared remarks about index-linked pricing and such like, that there is a way to pass those elements through to our clients for them to make decisions that they want to proceed with their projects with the surety around how we would evaluate price, how we would adjust the prices as the project moves ahead, but also, more importantly, to get the production slots and the raw materials available. So please don't take it that everything is sorted, but we have found a form of equilibrium that does allow the industry to contract and you've seen the backlog in our sector has been quite good across the board in quarter 2. In terms of Renewables, the 2 main projects are subject to FID by our clients. So we have those steps to proceed, but the clients are progressing down those paths. Our project for Iberdrola on East Anglia is a transport and it's all project in the outer years, so I think that the contribution for 2023 will be relatively low. It will be basic engineering and installation activities. Seagreen 1A is an EPIC, so there will be procurement, fabrication, cable manufacturing and such like for 1A. So 2 different projects, 2 different contracting models, and that's what we should expect working our way into 2023.

Okay. So we'll get some contribution from that, but I guess it's going to be a down year from a revenue perspective.

Our next question is from Nikhil Gupta from Citi.

I have a question on the bidding pipeline. So clearly around the commentaries that the pipeline is increasing. I wanted to understand how much of the increase is -- compared to, say, 6 months back, how much has increased due to inflation and how much has increased due to the additional work or newer projects? So any kind of guidance or colors there.

Yes. Thank you, Nikhil. I think for us, we're seeing 2 things. We continue to see Brazil and Petrobras' project pipeline continuing to deliver opportunities each quarter with major new bids arriving. This should not be a surprise to us because Petrobras has been very clear they intend to develop 15 SURF projects and their associated FPSOs in the next 3 years. And in our discussions with Petrobras on a regular basis, they're pretty clear that the machine will continue to offer those opportunities to the market. So the solidness of opportunities in Brazil is clear to us. Guyana continues to have further opportunities, which will come into the market. And last but not least, and we've discussed this a number of times, we do expect Norway to turn a number of opportunities where we are the preferred bidder into firm awards for us in quarter 4 or early quarter 1 of next year. And that's all to do with our clients getting their paperwork in and their regulatory requirements in to make sure they are having their approvals in by the end of this year. So we do expect Norway to turn in that way as well. So to answer your question, yes, there's inflation in the cost number, which is working its way through, but there is a pretty solid demand. The other thing in the prepared text, we can see things picking up slowly in the U.K. We've seen projects like Jackdaw getting approvals. So the U.K. is starting to move, and that's been a good market for us over the years. And we're also pleased to see the Subsea Integration Alliance working with Chariot in Morocco on an exclusive basis to try to assist them in getting their Moroccan opportunity up and running. So there are new regions and new opportunities starting to come there as well. So a bit of both, I think, is the answer to your question.

[Operator Instructions] Next question is from Haakon Amundsen from ABG Sundal Collier.

Two questions for me, please. First one, sorry if I missed this in the prepared remarks, but I was wondering if you can give an update on the working capital development you expected during the year, if there are any changes to that from the last time you guided. And secondly, if you can give some color on -- it looks like your project execution in offshore wind is quite different from oil and gas, your Subsea and Conventional business and just wondering if you can give some color on what is now changing in offshore wind. Are you getting the same kind of escalation, inflation protection, other kind of project elements and pricing elements into those contracts? Is that what's improving?

Haakon, this is Mark. I'll take the working capital item. So in Q2, working capital build was $63 million. That took us to a working capital build in the first half of the year of $96 million. Our expectation remains intact with the guidance that we previously communicated to the market, but we expect the working capital build this year to be in the region of the low- to mid-$100 million. The drivers behind that are the projects that we acquired into the backlog in certain jurisdictions, Brazil with Petrobras, with Saudi Aramco in Saudi Arabia, where the profile of payments were somewhat more adverse than customary experienced elsewhere within the portfolio. So our working capital guidance remains intact.

Thank you, Mark. On the Renewables, I guess the Renewables, there are 2 different areas for us to think about. One is risk allocation, and the industry, I think, is having a long hard look at risk allocation. And we could have taken a lot more awards in the first 6 months this year. And you can see that Seaway 7's order intake for the first 6 months is quite thin because we have been much clearer now about getting those risk allocations correct. So first of all, it's about getting the balance of risk right for the awards that we get out of the project. Secondly, Renewables is all about production, repeat production over and over and over again, whereas a SURF project is multiple work faces, multiple tasks, multiple types of activities. And therefore, then if there's any issue on your productivity delivery, it doesn't repeat 300 times or whatever when you got 300 [ piles ] to put in on an offshore wind project. Lastly, in Seaway 7's case, as we communicated in June, the Alfa Lift has been further delayed in China in terms of the mission equipment and the delivery of that. And therefore, then we've had to put the Seaway Strashnov to work on Dogger Bank next year, which again has a different efficiency factor and, therefore, then there are increases there. So 3 different elements which are very different from the oil and gas. Our fleet in oil and gas is fully functioning and built. Our risk profile and contracting models are pretty well established in oil and gas. And oil and gas is about multiple workplaces, multiple abilities to manage delays or whatever, but we've been able to move assets around in different fields and different projects, whereas Renewables is a repeat on a production basis of the same thing many times over. So a lot of work has been done by its Minister, Fitzgerald and the team in the last 6 months about the risk profiles we need. And I think the whole industry is going through that learning process, and that's why we are comfortable with that work in pre-backlog and we have tended to shun some of the work that wasn't offered to us in the earlier part of this year.

Thank you. There are no further questions. Speakers, please continue.

Okay. Well, thank you very much. I appreciate everybody joining. We know it's a very, very busy day today. I'm sure we'll talk to you offline. We look forward to catching up with you in our Q3 results later this year. Thank you very much.

Thank you. Goodbye.

This concludes today's conference call. Thank you for participating. You may now disconnect. Speakers, please stand by.