Mexichem SAB de CV ADR (OTCPK:MXCHY) Q2 2018 Earnings Conference Call July 26, 2018 11:00 AM ET
Executives
Daniel Martínez-Valle – Chief Executive Officer
Rodrigo Guzmán – Chief Financial Officer
Analysts
Frank McGann – BofA Merrill Lynch
Luiz Carvalho – UBS Investment Bank
Nikolaj Lippmann – Morgan Stanley
Liliana de León – UBS
Vanessa Quiroga – Credit Suisse
Hernán Kisluk – MetLife
Operator
Good morning, and welcome to the Mexichem Second Quarter 2018 Earnings Conference Call. Please follow the presentation that is available on Mexichem’s Investor Website. So you can follow along during the webcast. All participants will be in listen-only mode. [Operator Instructions] Please note, this event is being recorded.
I would now like to turn the conference over to Mr. Daniel Martinez-Valle, CEO of Mexichem. Please go ahead, sir.
Daniel Martínez-Valle
Thank you, Carrie. Good morning, and thank you all for joining us today to review Mexichem’s second quarter results and discuss our business outlook. I am very excited to share with you that we had a record-breaking quarter. This validates that the actions taken during 2016 and 2017 were in the right direction. And more importantly, it validates that A, Mexichem has a significant market position across all its different verticals, and B, that we are achieving a true global scale.
Let’s move to Slide 4. Looking at the quarter’s results now, I want to highlight the following: First, we reached double-digit growth in sales, EBIT, EBITDA and triple-digit growth in net income. Two, during this quarter, we reached our highest historical EBITDA levels due to a balanced mix of organic and inorganic growth.
Since the third quarter of 2017, we shared our plan to improve our net debt-to-EBITDA below the self-imposed ratio of two times by July 2019 after the completion of the Netafim acquisition. And very importantly,and this is a significant milestone for the company, our return on invested capital is higher than our weighted average cost of capital, 8.7% versus 7.5%.
Thirdly, we achieved strong growth across all key segments due to many factors. Firstly, Netafim’s consolidation influence and Mexichem’s results. Secondly, continuous good trends in European and U.S. market dynamics in both Fluent and Fluor. Thirdly, signals of recovery in Fluent LatAm and EMEA and lastly, positive market conditions in vinyls, as well as geographic diversification of sales, all this helped to boost Mexichem’s results.
Each of our three core business groups posted strong EBITDA results supported by a mix of organic and acquisition growth and we are already seeing significant surpluses for the most transformative acquisition in our history, Israel-based Netafim.
I’ll talk more about some of these exciting developments from that acquisition in just a moment.
Turn to Slide 5. Our performance in the quarter demonstrated Mexichem’s leadership in serving our diversified group of vertical markets, namely irrigation, building an infrastructure and Datacom. Our solutions address high-growth markets. We are building out our global footprint and investing in our internal infrastructure to fully address all of these opportunities.
Next Slide, number 6. We are thrilled with Mexichem’s financial performance, but we take even bigger satisfaction in knowing that our technologies and innovations are actually making a real impact all over the world.
Slide 7. Mexichem is delivering purpose-driven and human-centered solutions for intelligent ruralization. Netafim President Ran Maidan addressed the United Nations in New York this past May during the Israel at 70 Global Impact Through Innovation event.
Ran talked about how precise irrigation is helping farmers worldwide produce more food with less water and how Netafim is working with local governments and communities from large projects in places like India and Africa, where we help villagers there improve their lives, as well as their livelihoods.
Next Slide number 8. Also in May, Netafim launched NetBeat, what we describe as the first irrigation system with a brain, at the Agritech International Technology Conference in Tel Aviv.
In fact, as Ran said in his presentation, this is the only system in the world that handles the three key steps for farmers, monitoring, analysis and optimization and control. NetBeat leaves in the cloud, enabling incredible flexibility for farmers. Its featured dynamics crops modeling are constantly updated and customized by crops, growth patterns and weather conditions.
NetBeat is a culmination of more than 50 years of agronomic and hydraulic expertise and allows farmers to manage their crops from their smartphones giving them information at fingertip control of irrigation and fertigation. This technology isn’t just changing the world, it’s actually improving it.
Next slide, number 9. At Mexichem, we are increasing our focus to be able to deliver purpose-driven and human-centric solutions for intelligent urbanization, as well and reimagining city infrastructure focusing not just on cost, but actually on effectiveness and sustainability.
During the quarter, Mexichem celebrated the six year anniversary of our acquisition of Wavin and also the launch of Sentio, our new underfloor heating and cooling control system helping to drive a trend around the construction of smart homes.
Slide 10. Sentio is a family of integrated smart home products, including thermostats, sensors and a range of accessories. Sentio’s intuitive smart home solutions are easy to install and are actually as good for our construction partners, as they are for homeowners.
What separates Sentio from other smart home offerings aside from ease of use and insulation simplicity, is its nonintrusive design. In other words, it actually looks as good as it works to create an energy-efficient home.
Slide 11. Just recently, we launched Wavin Spotlight in Europe. These solutions will help solve problems with aging sewer infrastructure and storm water drainage, both made worse by city congestion and climate change all across the world. We are seeing the effects of climate change across our natural environments and in our cities. It’s changing precipitation patterns and causing larger storms across Europe and indeed, all over the world.
Each year, rainstorms and flooding events, as you all know, are increasing in both frequency and severity. In other words, it has become the new normal.
Slide 12, according to a recent report by the University of Bristol and the Nature Conservancy, as many as 41 million Americans or 13% of the population are at risk from flooding rivers. As for Wavin, we will continue to play a leading role in the development and production of forward thinking sustainable storm water solutions to diminish the challenges of urban flooding and do our part to adapt to the reality that is climate change today.
Moving to slide 13. As part of our commitment to the communities we serve, we are very focused on our efforts around sustainability and driving impact worldwide. It is not only the right thing to do, but a key requirement for long-term business success for our company.
At Mexichem, we are committed to making our cities more intelligent, safer, and more sustainable, so that we use fewer resources while supporting more people at cities around the world continue to grow.
Slide 14. Smart or intelligent cities are about a lot more than energy-efficient buildings and master-planned communities. They are also about accessibility and flexibility. Just to give you an example, Wavin is today, working with the City of Zwolle in The Netherlands to build a new kind of bicycle path.
As you can see on slide 15, this is actually a sustainable bicycle path made of hollowed blends of recycled plastics that enable water drainage and telecommunication cables and pipes to be laid down. It’s a far better alternative than laying just asphalt or concrete.
These recycled plastic pathways not only provides better water drainage, but makes it far easier to deploy cables and pipes and to make changes after the pathways are built. More details to come from Maarten Roef, Head of Fluent Europe, when we launch this pilot in September, looking forward to that.
These are just some of the purpose-driven innovations that Mexichem is delivering today and how we are making the world better. We believe that we have the right talent. We have the right assets in place and we are very well-positioned in the markets we serve globally.
Let me just give you just a few examples. We have the biggest fluorspar reserve globally with our mine in Mexico. We are the global leader in the production of specialty resins. We are one of the top global PVC producers in the Top-10 list worldwide.
We are the global leader in precise irrigation technology. We are the leader in data conduction the U.S. And finally, we are a leader in water conduction solutions for building an infrastructure. This is the beginning of a long-term journey. Our vision is marked by innovative solutions, and we are continuing in this direction towards a brighter future.
Now I will turn it over to Rodrigo Guzmán, our CFO to review our financial results. Rodrigo?
Rodrigo Guzmán
Thank you, Daniel. On Slide 16, you can see that we achieved strong performance across all of our business groups. Evaluation, we are proud of our Q2 and year-to-date 2018 results. They demonstrate that we made the right decisions and prove we are ready and we are very well-positioned with the right talents and assets in our portfolio.
For Q2 2018, revenues totaled $1.97 billion, up $505 million or 35% from Q2 2017, led by higher sales in all our business groups. Sales for our Fluent, Fluor and Vinyl business groups increased by 49%, 29% and 12% respectively. Organically, and without the FX impact, revenues increased 24% year-on-year or $354 million to $1.8 billion.
Growth was driven mainly by, improved sales performance including Europe, U.S. and Canada, signs of recovery in LatAm and EMEA, consolidated Netafim results into Mexichem results, solid proof for the month and better pricing across the value chain due to the seasonality of the prime market constraints in Fluor and improved PVC pricing and plastic soda environment in Vinyls, compared to last year’s second quarter.
The exchange rate translation effects for Q2 2018 in sales have a negative impact of $135 million, including Venezuela and positive impact of $31 million excluding Venezuela on a consolidated basis compared to Q2 2017.
This was mainly because of the depreciation of the Venezuelan bolivar by more than 6,000% and the Brazilian real by almost 12%, which was the offset by the appreciation of the euro by almost 8% and the British pound by 6%, all of them against the U.S. dollar.
EBITDA in Q2 2018 was down $423 million. Our quarterly highest historical EBITDA, representing a 29% increase from $323 million in Q2 2017 with an implied EBITDA margin of 21.5%. On an organic basis, and without the negative impact of $152 million FX translation effect, EBITDA would have been $522 million or 60% increase with an implied EBITDA margin of 29%.
During the first half of the year, we reported on an organic basis excluding the FX translation effect, revenues increased by 30% to $3.7 billion and 15% to $3.3 billion respectively. EBITDA increased 42% to $753 million with an implied EBITDA margin of 20.2% and 59% to $842 million with an implied EBITDA margin of 25.6% respectively.
This comprised with an EBITDA margin of 19% during the first half of 2017, an increase of 170 basis points and 710 basis points respectively. As you may remember, five years ago, we said we wanted to continue growing downstream into specialties with higher margins and at the same time, converting into one of the lowest cost producers of our raw materials.
In late 2017, we can see the consequences of those strategies. In Q2, where our specialty products EBITDA represented 67% of our total EBITDA, out of which 60% comes from Fluent, 21% from our Fluor downstream businesses and 19% from specialty resins and compounds. In the same quarter a year ago, the total weight of specialty products was 57%.
It is also important to highlight that with the Netafim acquisition, total EBITDA weight of our Petrochemical business declined from 43% to 33%. Mexichem’s Q2 2018 operating cash flow before CapEx and before dividends increased $84 million and $74 million respectively as we can see in slide 18, mainly due to the EBITDA increase of $96 million.
During Q2, we received a $268 million payout from the insurance company related to the $323 million settlement reached in mid-April with PMV. This was related to the accident that occurred in our PMV VCM plant two years ago, and includes property damages, a family insurance and business interruption policy.
During the first six months of 2018, working capital mix increased by $261 million, compared with the same period a year earlier when they increased by $233 million. The increase of $28 million between the first half of 2017 and the first half of 2018 was due to the consolidation of Netafim into Mexichem’s results and higher sales across the company’s business groups.
As we can see in Slide 19, and as Daniel mentioned during his remarks, we are very pleased to announce that our total financial debt as of June 30, 2018 was $3.6 billion, while cash and cash equivalents total $905 million resulting in a net financial debt of $2.7 billion.
Our net debt-to-EBITDA ratio was 1.98 times as of June 30, 2018, while interest coverage was 6.2 times. This implies two sound milestones achieved during Q2. First, the recovery of 100% of the accounts receivables related to the property damage, business interruptions and a family policy linked to PMV accident; and second, reaching our self-imposed net debt-to-EBITDA ratio limit of two times a year earlier after the Netafim acquisition.
We continue with a very strong balance sheet and with a very healthy financial structure in our debt, including Netafim.
As shown in slide 20, our tenor is 14.3 years. Our weighted average cost of debt is 5.11%. Our net profile is matched with our revenue course. And as mentioned previously, our net debt-to-EBITDA ratio is less than two times. ROE and ROIC from continuing operations increased 670 and 190 basis points to 14.4% and 8.7% while our WAC is at 7.5% as the Slide 21 shows.
As we can be seen, the trend in both metrics has been evolving positively. As we have been explaining to The Street and as showing in the Slide 22, the peak of our CapEx cycle ended in Q1 2017, when we completed the investment in our cracker JV in Texas.
During 2018, we expect our CapEx cash out of between $350 million and $400 million, including Netafim.
Now, I will turn the call back over to Daniel from remarks about our 2018 guidance and some closing remarks, before we open up the call for questions. Daniel?
Daniel Martínez-Valle
Thank you, Rodrigo. Now let’s please move to the next Slide, number 23. Last year, Mexichem achieved record results, and we expect another year of strong growth during 2018. We are raising our guidance from 25% to 30% growth in EBITDA for 2018, that is from the 20% to 25% range we set last quarter.
This is the result of the continued strength in 2018 of all our business groups. Fluent, Fluor and Vinyls. We also want to announce that our Board of Directors have decided to call for a General Shareholder’s Meeting in which a one-time extraordinary dividend of up to $150 million will be proposed. This comes from the back of our solid financial performance and encouraging business outlook.
For the second half of 2018, we continue to see favorable market conditions for our Vinyls business group enabling us to further expand opportunities and strengthen our business position.
Our Fluent Business Group continues to benefit from the organizational delayering we executed during 2017 and favorable market conditions in both Europe and the U.S., as well as Canada, while LatAm market conditions are continuing to improve. The supply-constrained environment and seasonality that benefited our Fluor business group during the first half of 2018 will start to moderate.
Additionally, we are overhauling our Japanese and U.S. Fluor plants in the second half of this year. For these reasons, we are cautious regarding our Fluor business for the remainder of the year.
Next slide, 24. I want to thank you all for joining the call today and following Mexichem, as we excitedly continue to build a global company that’s helping to solve some of the world’s biggest challenges, from feeding the planet to dealing with climate change.
Our partners and employees are committed to developing and delivering purpose-driven and human-centered solutions to the market. Together, we are cultivating a more intelligent and sustainable tomorrow.
Operator, we are ready for questions.
Question-and-Answer Session
Operator
[Operator Instructions] The first question will come from Frank McGann of Bank of America Merrill Lynch. Please go ahead.
Frank McGann
Yes, good day. Thank you. I was wondering if you could maybe expand a little bit more on the guidance, because the numbers would seem to be fairly conservative suggesting a pretty sharp slowdown in growth in the second half or the growth would still be up and decent, but much slower than the first half. I was wondering, is most of that related to the slowdown in Fluor or are you seeing, perhaps less robust comparisons in the second half in some of the other segments as well?
Daniel Martínez-Valle
Thank you, Frank, for your question. No, I think we are basically as I mentioned in my remarks, we are seeing a strong second half for all our business groups, as we are being a little bit cautious about Fluor. And there is two reasons why we are being a little bit cautious. The first one has to do with seasonality and the second one, as I mentioned, we are overhauling both our Japanese and U.S. Fluor plants during the second half of the year. But the rest of the business units, we expect strong business outlook for the remainder of the year.
Frank McGann
Okay. If I could follow-up perhaps, just in terms of the growth that you are seeing, I mean, you mentioned the U.S. and Europe and Canada being very strong. Latin America you said is improving. How are you seeing Latin America improving, I mean, is it just like countries where the results are kicking up? Any surprises that you are seeing in that region?
Daniel Martínez-Valle
We are seeing overall very positive results and we are very optimistic across the board in LatAm countries. We have significant runway in specific countries like Mexico and Brazil, but overall we are optimistic for LatAm in general.
Frank McGann
Okay, thank you very much.
Daniel Martínez-Valle
Thank you, Frank.
Operator
The next question will come from Nikolaj Lippmann of Morgan Stanley. Please go ahead.
Nikolaj Lippmann
Thank you. Congratulations on the numbers and thank you very much for taking my questions. First on strategy, Daniel, could you provide a little bit more – thanks for providing a little color here. Could you provide a bit of color on how to think about on the going-forward? And perhaps in a different or deeper way, how are you thinking about developing a culture where innovation is sort of the eye. So you have sufficient irrigation to grow within the company, because that’s clearly the road, you are going down that road. So that’s question number one. How to create a culture of innovation?
Question number two, on Netafim, it’s a very hot summer in the Northern Hemisphere. Is that something that we should think of as a catalyst for demand? And are you thinking in terms of changing the distribution model? Do you feel that you have the right distribution model for the growth that you are expecting? And then finally – sorry for all these questions, on Fluor, what exactly are you doing to that Fluor business? Are you moving from 134a, towards HFO? So, how should we think about that? Thank you very much.
Daniel Martínez-Valle
Thank you, Nick. Let me take one-by-one. They are very good questions. So first one is, on innovation and how we are going to build up these capabilities. We have actually already partnered with IDEO. As you know, IDEO is a world-renowned design and innovation consultancy. We are starting to create an innovation ecosystem within Mexichem and this will help us build an innovation lab.
We are starting to look at forming venture capital corpus fund and also we are already exploring partnerships in the Bay Area, in Tel Aviv. We’re already exploring potential partnerships with companies that will help us be more innovative. And our plan in general with IDEO is to build these new capabilities in both innovations, operations for vertical integration, as well as all the challenges associated to innovation capabilities. That’s the first one.
Regarding Netafim, we do expect the same tendency for the remainder of the year. We don’t expect any major change in our distribution channels or in our distribution strategy. And lastly, in terms of Fluor, we believe there is still a significant runway for 134a.
We are, as you know, in general, operating in a supply constrained environment. We do have, as I mentioned in my remarks, a significant sort of global market position based on our roles we serve associated to the mine in San Luis Potosi. And there is also the phenomenon associated to the sites in Europe, which again has some runway moving forward.
Nikolaj Lippmann
Thank you very much.
Daniel Martínez-Valle
You are welcome, Nick.
Operator
The next question will come from Luiz Carvalho of UBS. Please go ahead.
Luiz Carvalho
Hi, Daniel. Hi, Rodrigo. Thanks for taking the questions. First one, how should we think about capital allocation looking forward? Now your net debt-to-EBITDA is below two times and you do have somehow strong cash generation looking forward. So – and we know that, I mean, on the DNA of Mexichem, at least in the past, I mean, you had some been very active in terms of acquisitions, right?
So, I just would like to have a bit more color on how should we think looking forward from an capital allocation angle? Should we think about dividends at least for the short to mid-term? Or are we going to more acquisitions, maybe on Netafim? That’s going to be the number one.
The second point is, I mean, you have been discussing about this shift from a product to a more customer or solution-centric company, right? And just part of that, we already started to see some improvements on the – mainly on the ROE front, right? So how should we think about ROE and ROIC in a three year period from the current levels that we are seeing?
And if I may, just a third question, from the start point of this – how can I say, cultural or focus change in the company, what are the main challenges that you have been facing? Is this cultural, human capital, and focusing internally to people? If you can share some more color about this, that would be great. Thank you very much.
Daniel Martínez-Valle
Thank you for your questions, Luiz. So let me take one-by-one. In terms of capital allocation, as you know, we do have strong focus on having a very strong balance sheet. Again, we are very pleased to see that our net debt-to-EBITDA ratio is down to less than two, well before July 2019, which is a timeline that we communicated to the market.
The second thing is, we have been very keen for the past many, many months on driving increased return on invested capital. And again, this is the first time that we are able to announce that our return on invested capital is above the weighted average cost of capital. We want to continue this tendency moving forward. In terms of capital allocation, we have to bear in mind that we will continue to have a strong balance sheet.
We do believe that we will have to have a capital allocation policy that benefits both organic and inorganic growth moving forward. We are being extra keen on driving organic growth for the several, next several months and 2019. As we have mentioned in the past calls, you should not expect any acquisition for the remainder of the year.
We are focused on integrating Netafim and that integration, as you’ve seen, is well underway. So in general, we have to have a very balanced mix moving forward in the next couple of years between organic and inorganic growth. There is significant opportunities in places like Mexico, Brazil, Turkey, India, and China.
There are significant opportunities both on an organic level and expansion of capacity lines across most of our business units. So that’s what we should expect moving forward. In terms of return on invested capital and return on equity for the next years, our aspiration is to deliver low double-digit figures again, 2019 and moving forward, obviously, on the back-end of 2019.
And finally, associated to a cultural change and a transformation in terms of making Mexichem a more purpose-led future-fit organization, we are indeed facing much more opportunities in terms of the stuff that we can do in the markets to help us raise all the issues around food safety, water scarcity, storm water management solutions and intelligent urbanization.
The team is very much involved. The Board of Directors is enthusiastic about the prospect of the company in this direction. So by far, we are facing much more opportunities than challenges. We are, as I mentioned, to address Nick’s question, we are working diligently with partners like IDEO on building innovation capabilities, both on an organic basis and inorganic basis moving forward. As we are very enthusiastic about the prospects on this angle.
Luiz Carvalho
Okay, perfect. Thank you very much.
Daniel Martínez-Valle
Thank you, Luiz.
Operator
The next question will come from Liliana de León of UBS. Please go ahead.
Liliana de León
Hi, hello. Thank you and congratulations on the results. I start with a question, could you please give us more color on regarding EBITDA margins in Netafim? I mean, it seems that they are improving even above what we were expecting. So, could you please share with us the year-over-year increase?
Daniel Martínez-Valle
Thank you, Liliana. Yes, as we mentioned in the previous remarks, we are well underway in terms of Netafim integration. We are very happy with the results and the prospects for the next six months and 2019 for the company. As we mentioned in previous calls, we expect Netafim to deliver $200 million in EBITDA for 2020 and that includes a margin expansion and you should expect the company to have EBITDA margins of around 17% by 2020. And we are in the right direction and we are in the right track.
Liliana de León
Okay, thank you.
Daniel Martínez-Valle
Thank you, Liliana.
Operator
The next question will come from Vanessa Quiroga of Credit Suisse. Please go ahead.
Vanessa Quiroga
Yes, hello? Can you hear me well? Hello?
Daniel Martínez-Valle
Yes, Vanessa. We can hear you.
Vanessa Quiroga
Okay, great. Are you ready to provide yearly guidance for Netafim?
Daniel Martínez-Valle
Can you repeat the question? Vanessa, go ahead.
Vanessa Quiroga
Yes, sorry. If you can provide the guidance for Netafim?
Rodrigo Guzmán
Vanessa, that sound comes from your line.
Operator
Vanessa, this is the conference operator. We are getting a message coming from your line. I’ve muted Vanessa’s line at this time. [Operator Instructions]
Daniel Martínez-Valle
So, let me answer Vanessa’s question in terms of synergy guidance, we are very well on track in terms of synergies that we expected in terms of raw materials, procurement in general, management, as I mentioned in the previous call. We are very well integrated and we actually have a couple of senior executives from Netafim working on Mexichem’s overall transformational initiatives. So, you can expect what we mentioned in the previous calls moving forward, Vanessa.
Operator
Our next question will come from Hernán Kisluk of MetLife. Please go ahead.
Hernán Kisluk
Good morning. Thank you for taking my questions. And speaking on the longer-term, let’s say five years down the road, how do we envision Mexichem, for example, the mix of products moving – are going to be more away from commodity products to a more consumer-oriented products? And also if down the road, you would also consider not only acquisitions, but also selling some businesses?
Rodrigo Guzmán
As you can see in our slides and it’s the way in which we have been moving in the last years. We continue seeing our growth not in organical way, in terms of a mix of yield mix of products or not a new ones. It’s a – let’s say, we are going downstream more than enough and probably high margins. That is what I mean what I said that today our downstream products represents 67% of our EBITDA. So – and we continue seeing that being in the trend in the following years.
Daniel Martínez-Valle
And regarding potential sale of assets, we do not expect significant sales of significant assets. We are, obviously, continuously reviewing our asset base. If and when we find that there is something that is not tightly linked with our vertical approach along the lines of Datacom, building and infrastructure, irrigation and our chemicals business, we will divest those assets on time. But again, we do not expect to see any major assets or any major sales moving forward.
Hernán Kisluk
Thank you.
Daniel Martínez-Valle
Thank you.
Operator
And this concludes our question-and-answer session. I would now like to turn the conference back over to Mr. Daniel Martínez-Valle for any closing remarks.
Daniel Martínez-Valle
I just want to thank you all for following Mexichem. Again, we are very excited about the prospects of the company. We do believe we are in a unique moment with unique assets and we actually have the opportunity to go from a good to a great company.
Thank you very much and look forward to our next discussion.
Operator
The conference is now concluded. Thank you for attending today’s presentation. You may now disconnect your lines. Have a great day.
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