Vallourec S.A. (VK) Earnings Call Transcript & Summary

Hello, and welcome to the Vallourec Q4 and FY 2020 results. My name is Monique, and I'll be your coordinator for today's event. Please note, this conference is being recorded. [Operator Instructions] I will now turn you over to your host, Jerome Friboulet, to begin today's conference. Thank you.

Thank you, Monique. Thank you, everyone. Thank you for joining us for Vallourec's Full Year 2020 Results Presentation. I'm Jerome Friboulet, Head of Investor Relations. With me today to comment these results, we have Edouard Guinotte, Chairman of the Management Board; Olivier Mallet, Member of the Management Board and Chief Financial Officer. This conference will be recorded and a replay will be available. It is also audio webcasted on our Investor Relations website, and the presentation slides are available for download. Before I hand over to Edouard, I must warn you that today's conference call contains forward-looking statements and that future results may differ materially from statements or projections made on today's call. For your convenience, the forward-looking statements and risk factors that could affect those statements are referenced at the beginning of our slide presentation and are included in the universal registration document feed with the French financial market regulator, the AMF. This presentation will be followed by a Q&A session. Now I would like to leave the floor to Edouard Guinotte.

Thank you, Jerome. Good evening, everyone. Thanks for joining. Let me start first with a few highlights on today's call. Starting with our full year 2020 results. No surprise. The revenue at EUR 3.2 billion, down 22% year-on-year, was strongly affected by the coronavirus pandemic impact on the oil demand, oil price and, subsequently, the activity of our main customers. In this context, we achieved an EBITDA of EUR 258 million, with a stable EBITDA margin in percentage of revenue at 8%, very comparable to the 8.3% achieved in 2019. And this is a strong testament to the resilience of part of our activity. The free cash flow was down from last year and negative minus 100 million -- EUR 111 million, sorry, which led our cash position to remain at slightly below EUR 1.4 billion at the end of 2020. Of note, [indiscernible] in gross savings at EUR 165 million, clearly overachieving our initial target of EUR 130 million. Again, this is the result of the strong engagement and commitment from all Vallourec teams across the group to cut costs and adapt activity as quickly as possible to exceptional circumstances. If we zoom in on Q4, the EBITDA margin in Q4 was even slightly higher at 9.2% of revenue, also very comparable to the 9.4% achieved in Q4 2019. The net income of Q4 included significant impairment charges for EUR 409 million. But the positive free cash flow stood at EUR 112 million positive, higher than the positive free cash flow recorded in Q4, thanks to a major achievement in curbing the working capital requirement. No need for me to come back on the major steps we achieved in our financial restructuring with the announcement we made 2 weeks ago. Of note is the very high percentage of creditors who already committed or expressed their commitment to support the plan and stood at 92% as of Friday last week. Finally, a quick word on 2021 outlook, and we'll have the opportunity to come back later on this call. All in all and despite the recent increase in the oil price, we expect our activity related to the oil and gas market to remain subdued in 2021, particularly in the Eastern Hemisphere, where we know that customers typically take longer time to react to variation in the oil price than in the U.S., where we do expect some rebound to materialize progressively through the year. The activity of our iron ore mine will be stable in volume but boosted by favorable pricing although we do expect the iron ore prices to gradually decrease throughout the year. And we'll continue relying heavily on cost savings and cash management programs through the year. This should -- this leads us to target an EBITDA between EUR 250 million and EUR 300 million, and the free cash flow, which is targeted to remain negative between minus EUR 380 million and minus EUR 300 million as a result predominantly of the increase in working capital requirements, along with the progressive increase of our activity through the year. So with this short introduction, I'll hand over to Olivier, who will, as usual, detail the financial results for last year.

Thank you, Edouard. Good afternoon, everyone. A few comments on Slide 6. Our volumes sold measured in tons was strongly impacted by the COVID-driven crisis, dropping by 30%. The decline in our revenue was less pronounced at minus 15% at same exchange rate. The EBITDA did suffer still staying at plus EUR 258 million, thanks to our resilient margin, and the decline in free cash flow amounted to EUR 70 million. On Slide 7, same comments, although with slightly better figures. Volumes sold down 22%. Revenue down 5% at same exchange rate. EBITDA declined by 19% and a free cash flow at plus EUR 112 million, better than in Q4 '19. On Slide 8, more details on the revenue evolution. Starting with oil and gas, which represented 62% of our total revenue and where revenue was down by 22% at same exchange rates. In North America, the decrease was driven by lower deliveries due to the very sharp decrease in rig count and by lower prices. In EA-MEA, the decrease reflected lower volumes, although high alloy product deliveries positively impacted the price mix. In South America, the strong increase reflected the higher deliveries of premium OCTG for pre-sold offshore and higher price/mix, partially offset by an unfavorable currency conversion effect. Petrochemicals revenue was down 26%, mainly driven by lower line pipe sales in North America. Industry and other activities were up 6% at same exchange rates. In Europe, industry revenue was down. In South America, it was up, and it came mainly from the iron ore mine, with both higher volumes, which reached 7.9 million tonnes, a very good performance, plus 26% compared with 2019 and prices. Our sales to the Brazilian industry markets were stable before currency conversion effect. And finally, power gen revenue was up 11%, mainly due to timing of project deliveries. As a reminder, the shutdown of our German plant in Reisholz, that was dedicated to tubes for conventional power plants, is effective since last summer. Switching now to Slide 9 with more details on 2020 revenue region EBITDA. First, on the revenue side, the negative volume impact came mostly from oil and gas in North America and EA-MEA. The positive price/mix came from oil and gas in EA-MEA and South America and the currency effect from the devaluation of the Brazilian real. Moving to EBITDA. It reached EUR 258 million, down 26% year-on-year with a margin almost stable at 8%, reflecting, first, an industrial margin impacted primarily by the lower activity in oil and gas in North America and to a much smaller extent in industry Europe. This was partially offset firstly by savings, then by a higher contribution in Brazil from both the mine and oil and gas, while the effect of lower oil and gas volumes in EA-MEA was slightly more than offset by the favorable impact of higher alloy cubes deliveries. And SG&As were cut by 14%, reflecting strong savings. On the next slide, some comments on the most relevant lines of the P&L below EBITDA. First, the operating result was negative at minus EUR 1 billion. It includes impairment charges recorded in Q2 and in Q4 for a total of EUR 850 million related mainly to the goodwill of the North American operations and to fixed assets in the Europe cash-generating unit. They were driven by an increase in discount rates and a downward revision of long-term market perspectives. Restructuring charges reached EUR 143 million, mostly in Europe, North America and Brazil. To be noted as well, the financial result was negative at minus EUR 227 million, a EUR 17 million improvement compared to 2019, reflecting higher interest expenses more than offset by other financial income, of which notably is a favorable outcome of 2 litigations in Brazil. Let's move now to Q4. With first on Slide 11 some details on Q4 revenue and EBITDA. The revenue bridge shows a strong negative volume effect, less though than on a full year basis and a negative conversion effect, offset to some extent by price/mix. Q4 EBITDA stood at EUR 76 million, down EUR 18 million year-on-year, with a margin almost stable at 9.2% of revenue. The decline in the industrial margin was due to the lower activity in oil and gas in North America, partially offset by savings and a higher mine contribution, and SG&As were cut by 14%. On the Slide 12, some comments below EBITDA on Q4 P&L. As already mentioned, the operating result includes an impairment charge of EUR 409 million, mainly related to fixed assets in Europe and restructuring provisions of EUR 90 million, mainly in France and Germany. The financial result reflects stable net interest expenses, together with a favorable decision on a litigation in Brazil for EUR 15 million. And this resulted in a group net loss of minus EUR 570 million. Moving to Slide 13 on our savings in 2020. We have overachieved our EUR 130 million savings target, with EUR 165 million gross savings realized, which do represent an impressive 10% cut of our cost base. As a result, our initial 2016 to 2020 gross savings target of EUR 400 million was largely overachieved to reach EUR 751 million. As a reminder, in 2020, we launched extensive cost-cutting measures across the group. In North America, the workforce was reduced by more than 1/3, more than 100 -- 900 positions across all plants and support functions. In Europe, we have launched significant cost-saving measures, with -- in France, a reduction of around 350 positions, including the closure of the Déville heat treatment facility. And in Germany, we announced reduction of around 200 positions over '21 and '22, and intensive use of short-time work. In Brazil, we have implemented a comprehensive action plan, which resulted already in 2020 in a reduction of around 500 positions in support functions. Going to Slide 14. Let me comment, start commenting on cash items and more specifically on working capital management. As you can see on this slide, net working capital requirement was reduced by EUR 340 million year-on-year. In terms of days of sales, it decreased to an unprecedented low level of 78 days of sales, reflecting major successes in working capital management achieved, thanks to the dedicated task force we have put in place. On Slide 15, on free cash flow. The full year cash flow from operating activities was negative at minus EUR 146 million, reflecting, compared to 2019, the lower EBITDA as well as to a lesser extent, higher taxes and financial interest cash-out. The working capital was significantly reduced by EUR 173 million, more than in 2019. And we continued our CapEx tight monitoring with EUR 138 million compared to EUR 159 million in 2019. As a result of the full year free cash flow generation was negative by EUR 111 million compared to EUR 41 million in full year '19. And it was positive in Q4 with EUR 112 million free cash flow generation, including the strong reduction in working capital. I will conclude this part on 2020 figures on Slide 16 with the net debt. The group net financial debt at the end of the year was EUR 2.214 billion, an increase of EUR 183 million versus 2019. This increase was mainly driven by the negative free cash flow and by EUR 672 million of other items, mainly the repayment of leasing debt under IFRS 16 for EUR 31 million, negative currency effects and a cash collateral related to bid and performance bonds. As of December 31, 2020, Vallourec maintained a very strong cash position at almost EUR 1.4 billion. I don't think I need really to go through the Slide 18 in details since it is a reminder of the key principles of the agreement with our main creditors, that we have already detailed on February 3. The new element in this regard is that this agreement in principle is now supported by creditors having reached or signed this lock-up agreement, representing 97% of Vallourec S.A's. credit facilities and 86% of its bonds, exceeding, therefore, the 2/3 majority that will be required at their committee meetings, which will take place in the month of March. And I will now give back the floor to Edouard.

Thank you, Olivier. So let's have a look at what we can expect for 2021. First of all, when we look at the macro environment for the oil and gas activity, we expect globally this activity to remain subdued. You have to keep in mind that the latest forecast for oil demand stand around 95 million barrels per day in 2021, which is not significantly different from what was achieved in the second half of 2020. The current surge in oil price is more the result of supply cuts than the recovery of the oil demand because there is essentially still quite a bit of uncertainty in the evolution of the pandemic and its impact on the world economy and, ultimately, on the demand for oil. In this context, we do anticipate the evolution of activity to be quite different from one region to the next. Starting with North America, there, as it's usually the case, the rig count has started to react favorably to the evolution of the oil price. And there, we expect the OCTG market to start a gradual recovery through the year, albeit at a moderate pace. We do expect a positive price trend on the back of this recovery in the activity also spurred by the strong increase in raw material costs, which we are witnessing right now and which we expect that they will impact our margins at the beginning of the year at least. Moving on to Europe-Africa and Middle East-Asia. Overall, the activity will still be significantly impacted and sales price will remain under pressure. The specificity of this Eastern Hemisphere market is that there, the customers are of different nature than in the U.S., and they typically take more time to adjust to a positive oil price environment. So we don't expect material evolution in the deliveries of our product in 2021. And on top of that, you have to remember that in 2020, we benefited from a higher amount of deliveries of high alloy products as a result of orders which were booked back in 2019, this will not happen again in 2021. And this gap will have an impact on the profit we make in this region. All this being said, we do anticipate an increase in the tendering activity of our customers, which if we prove to be as commercially successful as we want to be, will favorably pave the way for our 2022 activity. As far as the industry segments are concerned in Europe, the demand there is still impacted by the COVID-19 crisis. And we anticipate to show to its weakness, early signs of recovery, but very moderately. Moving on to South America. There, the picture is quite different. In the oil and gas segment, on the back of the drilling plan of both Petrobras and IOCs in Brazil, we do expect a continuous increase in our deliveries compared with 2020. The industry segments have, already in 2020, resisted very well to the pandemic, and we expect them to continue to do so in 2021. And finally, the activity of our iron ore mine will be stable in volume but will benefit from the high prices we enjoy today and as we speak. Although we think that these prices will not be sustained for the full year, and they will decrease all along 2021. Cost savings and cash management remains an imperious priority of ours. So we will continue pushing our savings initiatives to enable the group to continue improving its competitiveness and strict cash control measures remain in place, And the CapEx envelope has been set at EUR 160 million, a bit more than EUR 20 million more than 2020, where we froze as much as possible in reaction to the crisis. So as a result of all of these, we expect our EBITDA to land somewhere between EUR 250 million and EUR 300 million. And as a result of the increase -- the expected increase in working capital requirement in preparation for higher activity towards the end of the year and in 2022, the free cash flow is expected to be, unfortunately, negative between minus EUR 380 million and minus EUR 300 million. So this is what we wanted to share with you today in a nutshell, and we'll open the floor for the usual Q&A session.

[Operator Instructions] Our first question comes from the line of Alan Spence from Jefferies.

I've got 2 questions, and I'll just kind of take them one at a time. First one is regarding your guidance. And if we compare that to the plan that you shared with the creditors back in October, we see better EBITDA, but quite a bit worse free cash flow. Is that working capital? Is that higher restructuring? Or particularly on the free cash flow side, if you could help bridge that for us, please.

So at this point, a few comments. The first one is that when you look at the EBITDA, the major or the almost only difference vis-à-vis what we had in mind in October is coming from iron ore prices, which are higher than anyone had in mind at that time. One point to keep in mind and it goes to your question about the free cash flow is that we pay taxes on the profit of our iron ore mine with a rate, which is, I think, 34%. So you have to make a discount when you move to the free cash flow from this increase in the EBITDA. The other point is that, yes, we take into account an increase in our revenue at the end of '21 with higher sales expected and the preparation for a higher '22. So this has an impact on the working capital. And the last comment is that there will be cost associated to the restructuring transaction itself, which are not yet precisely evaluated, but that we have now to take into account as well.

Sorry, just to confirm the last point there. The transaction costs were not assumed in the October presentation, did I understand that?

No, because it was not. And what we've shown during our February 3 communication clearly states that the figures do not include this transaction cost.

Okay. Okay. That's got to be the largest bucket. That's very helpful. My second one is around the iron ore mine. Can you please share with us your expectations for the iron ore price, the benchmark price, not your realized price for 2021?

So we are not the big specialist in the iron ore prices, and we are humble people. So we follow the consensus and this is what we take into account. And the consensus, as you know, expect some gradual decline from the current starting point over 2021. So this is what we take into that.

So does that mean you're assuming something close to $150 per ton, if you're just talking about the gradual decline? Or what is -- how steep do you define gradual?

It's declining possibly below the $150 per ton, definitely.

Okay. And then just as a last follow-up question, this -- and you'll probably get sick of me asking this every quarter. Would you consider changing reporting so that we can have better visibility into iron ore mine and better estimate and evaluate the future cash flows from your core business in the iron ore mine?

Not at that time.

Is it something you'd consider in the future?

No, no. So far, we stick to our usual publication procedures. And I have to say that most analysts now have fairly well in mind what are the drivers of the profitability of our mine. So we don't believe we need to add a lot more about that. Keep in mind as well when you look at the profitability of the mine that we have several customers. Each of them have different sales prices, different contracts. The mix of the products does change as well. So it has to be extremely detailed or we -- or it doesn't mean that much. So you have to be careful with that.

Our next question comes from the line of Vlad Sergievskii from Bank of America.

If I can clarify something on your outlook, which is already very detailed. But if I can ask on the North America specifically. You're mentioning your raw material cost inflation there. And I'm just wondering how this trend between raw material inflation and OCTG pricing inflation will play out? Obviously, we saw a big pipe logics move by over 10% in January. How quickly do you think your P&L will reflect, first, raw material cost; and second, the increase in pipe prices?

Yes. So clearly, the increase in raw material costs, which has started late last year, will start to impact our accounts in Q1. And then as the year progresses. As you may have seen, we announced price increases during the course of this quarter, and we expect this after the necessary negotiation with our customers to start to impact our accounts in Q2.

That's great. And also, if I can ask a similar question, I would say, on the EA-MEA business. Apart from just less profitable backlog in there, presumably, there is also some cost inflation in EA-MEA as well. How will it impact profitability of this EA-MEA business? Because presumably, prices there are moving slower.

Yes, correct. So first of all, the increase in raw material costs is a world phenomenon. It's iron ore, it's scrap, it's in the U.S., it's in Europe, it's in China, it's in Brazil, it's everywhere. So every competitor is on an equal footing with regards to absorbing and passing on raw material cost increases. You're right in the sense that typically, the time lag to pass on the increases is a bit longer in the case of EA-MEA than in the case of the U.S. This being said, the -- we -- as you know, the tendering activity has been quite low in this part of the world late last year. So we have ahead of us, and we expect an increased tendering activity, and it will be the time to pass on as much as possible, as much as we can of these cost increases.

That's great. And lastly from me, in terms of increasing tendering activity, are you already seeing early signs of that or just an anticipation of that at this point? And also within this upcoming increase, which regions do you think will lead this increase in activity? Are those Middle East and national oil companies? Or you expect some pickup in international tendering from international oil companies as well?

So on your -- on the latter part of your question, we do expect what we call the winning regions to lead the charge. So clearly, Middle East, in general, North and East Africa with big gas development project should be at the front row and the front-runner for this increase in tendering activity, predominantly national oil companies, but also international oil companies in some areas. I'm sorry, I'm afraid, I forgot the first part of your question.

What [indiscernible]