Ladies and gentlemen, thank you for standing by and welcome to today's OCI N.V. third quarter 2018 results conference call. At this time, all participants are in listen- only mode. There will be a presentation followed by a question- and- answer session, at which time, if you wish to ask any question, you will need to press star and then one on your telephone keypad. I must advise you this conference is being recorded today, November 16, 2018. I would now like to hand the conference over to your speaker today, Director of Investor Relations, Hans Zayed. Please go ahead.
Good afternoon, and good morning to our audience in the U.S. Thank you for joining us on the OCI N.V. third quarter 2018 results conference call. You can find all the details of our results in our press release and financial statements, which we posted on our website this morning. With me today are Nassef Sawiris, our Chief Executive Officer, and Hassan Badrawi, our Group Chief Financial Officer. On this call, we will review OCI's key operational events and financial highlights for the third quarter of 2018, followed by a discussion of OCI's outlook. As usual, at the end of the call, we will host a question- and- answer session. As a reminder, statements made on today's call contain forward-looking information. These statements are based on certain assumptions and involve certain risks and uncertainties. Therefore, I'd like to refer you to our disclaimer about forward-looking statements.
Now let me introduce our Group Chief Financial Officer, Hassan Badrawi.
Thank you, Hans, and thank you all for joining us. I will start with a brief summary of the results we published this morning, then hand over the floor to our Chief Executive Officer, Nassef Sawiris. Briefly, we reported a 16% increase in sales produced volumes, which reached 2.3 million tons during the quarter. This includes our 50% share in volumes from Natgasoline. We achieved this increase despite a number of opportunistic maintenance work in IFCO and some maintenance work in Europe. Our realized selling prices enjoyed positive momentum and improved across the board compared to Q3 2017. Because of the higher volumes and higher selling prices, third quarter revenue increased by 33% to the reported $774 million. Our adjusted EBITDA increased by 35% to $230 million, which again, also includes our 50% share in Natgasoline.
Our methanol commercial team has been effective in managing the distribution of our 50% share in Natgasoline's production as the plant successfully ramped up ahead of schedule. On our primary measure of operational growth, we generated free cash flow of $69 million before growth CapEx during the quarter. This takes the total free cash flow year to date to $316 million compared to a much lower number in the same period last year, around $17 million, which was a CapEx heavy year. I would like to highlight a few items on our free cash flow. Firstly, there was some concentration of CapEx in the quarter. We had around $57 million of maintenance CapEx recorded during the quarter. We also had some growth CapEx, which for the continued refurbishment of BioMCN second line and the installation of a new DEF tank at IFCO.
Our total CapEx was around $95 million during the quarter. We have not planned any turnarounds during the fourth quarter, and we expect total CapEx to be in line with the guidance for the full year of around $300 million. Secondly, we paid most of our annual taxes that were due, a total of $32 million, during the third quarter as well. We expect some additional cash tax payments by year-end of $2 million- $4 million, which will take the total for the year to a maximum of $37 million, $36 million. Finally, we also had first time working capital introduced, reflecting our two new distribution operations, our OCI Methanol Marketing distribution arm, and our N-7, which is the JV with our joint venture partner, Dakota Gasification Company. Also capturing the ramp-up in our methanol distribution of Natgasoline.
Turning to our balance sheet now, our net debt moved up around $80 million to $4.4 billion as at 30th of September 2018. This was driven by $120 million of expenditure to buy out minority partners in OCIP in July. However, we continue the trend of significant improvement in our leverage ratios. Our trading net debt to adjusted EBITDA stood at 5.5 times at the end of September, down from seven times at the end of 2017 and on track to reach, we are guiding for a range of four to 4.4 times by year-end. We have continued our drive to optimize our balance sheets and cost of debt. Earlier this week, we closed another successful placement of $900 million at Natgasoline, including a $565 million Term Loan B Facility and $336 million of bonds in the U.S. tax exempt markets.
The proceeds have been used for the refinancing existing debt of $252 million of taxes and bonds, also availing cash to shareholders. The new debt is also around 250 basis points lower weighted average cost of debt than the financing replaced. With this initiative, we have completed our target refinancing plan for 2018. Overall, we remain committed to our financial policy with a focus on de-leveraging and achieving an investment-grade profile as soon as possible, which we believe can be accelerated given the appropriate market conditions and as we continue to benefit from the full ramp-up of our growth initiatives. I would like now to hand over to Nassef Sawiris, our Chief Executive Officer, for further commentary on the results. Nassef?
Thank you, Hassan. Let me first give an update on recent developments, followed by the outlook for the fourth quarter and 2019. I'm pleased how our business is developing this year, especially in the past few months. We were disciplined and stuck to our commercial strategy of limiting forward sales during the low months in the beginning of the summer. As a result, we have entered the fourth quarter with an excellent inventory position and forward book. We can capitalize on the higher pricing environment that materialized in September and October and expect these revenues to filter through in the fourth quarter results. This strategy has helped us both in the U.S. and in Europe. For example, U.S. Midwest UAN prices are up almost 50% since the beginning of July, and CAN prices in Europe are up almost 30% from then.
Going forward, we'll continue to limit forward sales to a maximum of six to eight weeks. We also expect a step-up in volumes this quarter. I would like to highlight both our methanol and fertilizer operations in the U.S. Our methanol business received a major boost from the introduction of Natgasoline, which started up at the end of June and has achieved much better production rates than anticipated so far. In recent weeks, performance of the plant has been even better, running effectively and efficiently at 104% utilization. Since the start of Natgasoline, it has produced to date over 500,000 tons of methanol. IFCO is also looking very positive. In July, we took a shutdown opportunistically to optimize production, which made it possible to postpone a turnaround that was initially planned for October to 2019.
Since the work was done, the plant has been running consistently at rates above nameplate. The plant stepped up production even more in October, when we received the permits to increase allowable ammonia production from 110% to 118% of nameplate capacity. As a result, our operation team has done a great job in bringing the production rates of the ammonia plant to almost 115% in the past four weeks and the urea plant to 117%. Our DEF business in IFCO keeps growing at rates in the double digits from quarter- to- quarter, benefiting from a market that is growing in excess of 15% per year in North America. We have facilitated further strong growth and improved reliability of supply with some small investments in logistics, adding new rail cars and a newly constructed storage tank during this quarter.
We are planning on doubling our current run rate of DEF during the course of 2019. Volumes for DEF for 2019 will be effectively double those of 2018. Now turning to the outlook. First, for our end markets. We expect that we can maximize the benefits of an expected continued recovery in our end markets. Firstly, our nitrogen markets are benefiting from tight supply, despite some suggestion this week following the India tender that this was a different case. Not much spare capacity is currently available, and very few new capacities are coming into the market over the next three, four years. These additions are further offset by expected plant closures and very low exports from China.
Secondly, inventory levels across the system are very low and well below the levels at the same time a year ago, in particular in major importing countries such as India and Brazil and even in Europe. The demand outlook is favorable, with an expected additional boost next year from an increase in corn acreage of potentially 4 million acres in the United States. That should provide an added boost that is not factored in. Before I go to methanol, the Iran issue currently does not reflect in our outlook. The balances for both nitrogen fertilizer as well as for methanol do not reflect any change in Iran production or exports as a result of the recently imposed sanctions by the U.S.
With at least 4 million tons each, for each product, 4 million tons of urea and approximately 4 million tons of methanol, Iran is one of the largest exporters for both of these products globally. To date, selling prices reflect full export capabilities out of Iran. Until now, Iran has not reduced exports for either product, but this may change in the coming months and after the six-month waiver on oil is reviewed. On methanol, in general, there are very few capacity additions coming in the next few years, and fundamentals remain robust, even if there is some short-term volatility as a result of the fast drop in oil prices.
Then I look at the shorter-term outlook for our business. We expect to end the year on a strong note and expect higher EBITDA and free cash flow in the fourth quarter compared to both the third quarter of 2018 and the fourth quarter of 2017. Our commercial strategy is paying off. Our sales volumes are going up. We will enjoy a first full quarter of Natgasoline, and we have no major turnaround scheduled for the remainder of the year. Our cost position is also favorable with a low blended average natural gas cost. We have a mix of long-term contracts with fixed gas prices in Egypt and Algeria, attractive pricing, and spot prices in Europe and the United States.
For our spot prices in U.S. plants, we have hedged primarily via collars for more than 50% of our nat gas requirements to offset the risk of potential increases in natural gas prices over the period between now and 2021. The collars have a bandwidth of $2.45 per MMBtu as a floor on average, and $3.50 on the high side. In addition to those commitments, we selectively do forward fixed price purchases within that bandwidth. For example, we have hedged approximately 70% of our natural gas requirements over the next 12 months in the U.S. Specifically, we are pleased that IFCO has over 70% of its requirements hedged via fixed price purchases at a price of around $2.40 per MMBtu.
As a result of our favorable outlook, we are on track to reach a leverage metric between four and 4.4 net debt to adjusted EBITDA by year-end, and expect to approach about 2.5 times net debt to EBITDA towards the end of 2019. At that point, we'll start the process of returning cash to shareholders in a combination of dividends and share buybacks. With that, we'll open the line for questions.
Ladies and gentlemen, we will now begin the question- and- answer session. As a reminder, if you wish to ask a question, please press star one on your telephone and wait for your name to be announced. If you wish to cancel your request, please press the hash key. Once again, it's star one if you wish to ask a question. Your first question comes from the line of Roger Spitz. Please ask your question.
Mm-hmm. Thank you, and good afternoon. I had a few questions on the Natgasoline accounting. First, am I correct that Natgasoline equity pickup is included on your balance sheet under the line item income from equity accounting investees net of tax?
Hassan, you want to answer that?
Yeah. On an accounting basis, Natgasoline will be accounted for using equity accounting. That's correct. In our adjusted results, we're going to be reflecting our 50% share in the adjusted EBITDA going forward.
I understand that. I was coming to that. This quarter you have equity income of -$3 million . That presumably includes the Natgasoline equity income pickup. Is that correct?
That is correct.
Okay. Then in your segment, you have Natgasoline equity income pickup is included in.
[crosstalk]
Is it included in IFCO in the segmentation?
No. No, it's not included in IFCO. We can definitely send you If you can send us those questions, definitely on the accounting side, we can walk you through all the additional new accounting that are reflecting the new businesses coming into the.
Okay. Let me ask you one more broad question about it. You're including in your EBITDA the $17.7 million of Natgasoline EBITDA benefit, which is fine, which is your share of the EBITDA of Natgasoline, but you're not including your share of Natgasoline's debt. Is that correct? You're getting the EBITDA benefit, but you're not showing your share of the debt?
In our leverage calculations that we're talking about here, we're not reflecting our share of debt. Mind you, that our N.V. debt under the HoldCo had about $600 million of financing that is attributable to our investment in Natgasoline.
On the same token, this is offset by including the full share of the debt of other subsidiaries that have significant minorities. For example, our close to $700 million of Sorfert debt includes the portion of the debt that is attributable to our partner in Sonatrach. If you adjust for that portion of the minority of Sorfert as well as that portion of the minority on EBIC, it becomes almost a wash.
Got it. Thank you very much for your help. Appreciate it.
Thank you. Your next question comes from the line of Christian Faitz. Please ask your question.
Yes. Good afternoon, gentlemen. Two questions if I may. First of all, can you talk a bit about current demand trends, particularly in Europe? My understanding is that the winter- seeded crops have massive drought-related problems, which also would suggest that fertilizer application will be minimal in Q4. Can you confirm that from what you hear from your sales force? Second question, just quickly, when in 2019 do you plan to conduct the turnaround in IFCO?
Excuse me, to announce what?
The IFCO turnaround, when about in 2019?
Okay. On the first question, I can tell you that we do not see that in the demand in Europe. On the CAN side, we are practically sold out, in line with our strategy for the six to eight weeks forward. We are sold out till year- end, at current pricing of reflecting higher than EUR 235 net back on CAN. However, there were disruptions in sending the product out as a result of the low river, which affected to some extent our September volumes and September sales out of Europe. Those have started to pick up in the recent days and volumes are going out. There is still a lot of demand. We see a lot of demand for January and February in Europe at current prices.
Our reports from our distribution channels that warehouses on both CAN and urea in Europe are significantly lower inventories than last year. That is how we see things on the European supply. The turnaround in IFCO, we will obviously try to time it with the lowest part of the season, around summer.
Okay, great. Thanks, Nassef.
Thank you.
Thank you. Your next question comes from the line of Frank Claassen. Please ask your question.
Yes, good afternoon. Frank Claassen, Degroof Petercam. Two questions. One on Sorfert. Can you update us on whether there's any insurance payment in the Q3, and whether you expect any in the future, and maybe also some comments on size of the insurance payments? Then secondly, on Natgasoline. Now that you've finished the refinancing, is there some upstreaming expected in the short term, and when do you expect dividend payments, or how does the upstreaming in the future will look like? Thank you.
Hassan will jump on both questions, even though I know the answers.
Regarding your first question on Sorfert, as you recall, we did record earlier in the year a $20 million down payment on the insurance claim for the shutdown that we experienced in 2017. We progressed the claim during the year. We believe we are now in the final stages of finalizing discussions with the insurance company. Most likely, the remainder of the cash that will be received for the balance of the claim is expected to occur during the first quarter of 2019. We have not yet disclosed the amount, but we believe we're going to be within the guidance that we issued earlier to the market. If you factor out the gap, the force majeure on the gas, which we were successful in securing, then the balance of the claim should be somewhere in the neighborhood between $45 million and $65 million. On the.
Upstreaming.
On the upstreaming for Natgasoline, with the successful conclusion of the refinancing at Natgasoline last week, we believe we're going to be unlocking cash in various forms, whether it's repayment of existing shareholder loans or other working capital that the company provided during the startup phase, that will unlock anywhere between $100 million-$200 million over the next several months.
Okay. That's a clear answer. Okay, thank you very much.
Thank you. Your next question comes from the line of Tom Wrigglesworth. Please ask your question.
Good afternoon, gentlemen. Thank you very much. Three questions, if I may. Firstly, Mr. Sawiris, I'm hoping that you might be able to share what you think. I know you said you haven't included any shortfall from Iran in your balance assumptions. Could you give us some sense of how much of Iranian exports might be at risk going into 2019? Secondly, you obviously expressed confidence about the performance in the fourth quarter. I think the full year estimates on Bloomberg are $1.09 billion of EBITDA. Do you think that consensus is in the right ballpark? If you could help us quantify that confidence you have on the fourth quarter, that would be very helpful. Thirdly, were there any ramp costs in Natgasoline's EBITDA in the third quarter numbers?
For the pricing environment, is that the kind of right run rate for Natgasoline, or were there tampering factors on that $18 million of EBITDA? Thank you.
First, I'll start with the question I won't answer, which is the guidance on the fourth quarter. We're not going to give numerical guidance six weeks before the quarter ends. What we can say is that, we entered the fourth quarter with very strong visibility on our sales volumes. We have very little tons to sell till year end to achieve what we think will be a good quarter. On the Natgasoline issue, you have to remember that in methanol, 85% of our production, including BioMCN, is contracted with long-term clients. A lot of these contracts are one-month trailing. Even a current drop in one month, does not reflect till the following month because most of these contracts are one month after the formula price is established or the benchmark price is established.
Again, the pricing environment has come down a bit in the last few weeks as a result of erratic drop in oil. We think that this is overdone. There is very robust demand. We always hear the same story from the buyers about MTO, in China and Asia, about MTO profitability and all that, yet MTO plants continue to run at reasonable utilization and additional MTO plants are earmarked for commissioning. That side of the demand on methanol, we have good visibility also on methanol for Q4.
Also, if I'll just add that, just in addition to what the description that Nassef just gave on the market, that on the Natgasoline level, it is true that during the quarter, as we reported in our press release, the assets utilization rate was around 70%. That captured the plant going through its ramp-up phase. As Nassef indicated, by the end of the quarter, we were already above nameplate capacity, so the run rates will be much higher. The pricing also has improved at the Q4 versus Q3. Generally, definitely this quarter does not yet reflect the run rate potential for Natgasoline.
The last question I will answer, which is on Iran. What we feel right now is that Iran continues to export. They're putting tons on the market for December pricing. There is also an element of exports to the neighbors through trucks, not a lot. What we see now is that capacities have not come down, but there is becoming a bit more difficult for shipping, for finance and transactions. One clear sign on the India tender yesterday, they wanted to tighten the screws so that re-exported products from Iran that go to China cannot be re-exported and rebranded as different country of origin. They specifically did cash against documents, payments and no LCs so that a lot of people are starting to understand some of the loopholes that exist in the system.
The current pricing environment reflects Iran producing and exporting 4 million tons of approximately urea and an equal amount of tons on methanol.
Yeah, that's very helpful color . Thank you both.
Thank you. As a reminder, if you wish to ask a question, please press star one. Your next question comes from the line of Nathan Scudrick. Please ask your question.
Good afternoon, guys. My first question, I didn't quite catch it. What was your leverage target for year-end 2019?
Around 2.5 times net debt- to- EBITDA.
Okay. Then just on the commentary around pursuing an investment-grade rating, had you spoken with the rating agencies? What was their commentary on what needs to happen in order for you to migrate to investment grade?
The first issue that obviously we have accomplished was that the plants, the end of the big CapEx cycle, the plant starting operation, and they see the cash flows from the operating plants, which you will see from both IFCO and Natgasoline and all that. That milestone, I think is behind us. Then they would want to see the free cash flow conversion going into debt reduction. We benefit from two things. Gross debt and net debt reduction as a result of the free cash flow, as well as the rising EBITDA that improves our metrics as a result of higher volumes and the current pricing environment. We are constructive, but you have to remember that the rating agencies just rated us less than six months ago, this is not an overnight event to get back to the investment grade.
We are in constant touch and committed to a highly disciplined financial policy.
Okay, great. Then just the last one is, on the overall debt reduction, how are you thinking about that? Is there any particular slugs of debt that you have identified in terms of paying first?
We have quite a lot of flexibility. We have a revolver that is not fully utilized, but it still has room, so that the first free cash flow, which will be in the fourth quarter, you will see it reflected in the revolver at year-end coming down because that's the easiest tool we have and gives us that flexibility. This was designed from the beginning, that a portion of the refinance debt that we did before the summer was in the form of bonds, and a portion was in a banking facility in revolvers. The revolvers take the first priority because it's for ease of execution at no cost.
They also have the benefit of further interest rate step downs as we pass certain thresholds in our overall covenant leverage calculation. Based on as we get closer to the 2.5, this has also a material reduction in our cost of debt on these facilities.
And in interest expense in general.
Yeah. Thank you very much. That's very helpful.
Thank you. Your next question comes from the line of Emrys Komen. Please ask your question.
Hi, this is Emrys Komen from Kempen & Co , standing in for Henk Veerman in his absence. Thank you for taking my questions. I have a couple on leverage structure. Firstly, you guide for a two times, 2.5 times net debt EBITDA in 2019. What kind of explicit assumptions behind this figure? We estimate 2.5 times net debt EBITDA with an EBITDA of $1.3 billion in the next year. Is this a number we should bear in mind if the current market circumstances remain stable?
We use our forecast on pricing because pricing is not up to us, on the consultant's view of 2019 pricing. Consultants are below current prices, whereas what we see or what we forecast is that quite a rebound past December in pricing, even beyond current prices. On the pricing environment, we rely on the consultants with a view on that. We don't take our own view on pricing. The target reflects what the average of the consultants reflect on pricing. In that scenario, absent that they are proven to be right or wrong, that will have an impact on that. That's our base case on pricing assumptions.
Okay. Just to follow up on that. You mentioned that share buyback and dividends coming from this 2.5 times net debt-to- EBITDA. Should we assume that this is what management regards as the optimal leverage in a base case scenario?
I think two to 2.5 times, and two times through the cycle is a fair assumption. That also includes our assumption of all the volumes that are going to come out from the newly constructed facilities. You're going to see also we announced very smart minimal CapEx, and this is going to be a trend going forward. For example, we're adding 130,000 tons before next summer of methanol production in our Beaumont facility with a total CapEx of $10 million.
Okay. Thank you.
Thank you. Your next question comes from the line of [Joe Mears]. Please ask your question.
Hi. Thanks very much for taking my question. I was just going to ask about whether there's an impact on the methanol business from the proposed tariff discussion. I'm not sure whether it's actually been applied yet between the U.S. and China, the retaliatory tariff. It doesn't look like from the prices it's impacted, and you've never mentioned it explicitly, but I just wanted to just check up on that.
The product is very fungible. Where it goes, people constantly can redirect Trinidadian volumes or Middle Eastern volumes to China and replace those customers with American product that goes into their end markets. Europe has almost a 7 million ton deficit. There is a lot of arbitrage that will not make that have any impact. It's a global market, and just having a tit for tat tariff between U.S. and China does not change the price. It's immaterial.
Great. Thank you very much.
Thank you. Once again, if you wish to ask a question, please press star one. Your next question comes from the line of Andrew Kurteen. Please ask your question.
Hi, guys. I have two questions. The first one is in relation to benchmark pricing versus realized pricing. Throughout Q3, it looked like pricing on a benchmark basis came up sort of across the board. It doesn't feel like that's really flowed through into your realized pricing. If you can provide maybe a little bit more clarity of any lagging impacts or anything else which is sort of leading to that disparity. The second question is around the Indian tender, which had quite a large amount of supply, and clearly the equity markets panicked a little bit across a number of stocks.
I'd like to have a little bit more clarity on how you, I guess, look at this 3 million tons of supply versus the tight market generally you're seeing and if it could mean anything, leading forward to Q4 and Q1 next year in terms of oversupply in the market. Thanks.
I think, first of all, you have to take the 3 million ton number with a grain of salt. Because a lot of these offers were based on getting the supply from the same producer. There is a lot of duplication. We know from our side that we will probably end up selling around 100,000 tons out of Adabiya, in Egypt. However, almost 300,000 or 400,000 tons of traders quoted the same 100,000 tons. There's a lot of duplication in that. In addition to that, the window allowed for shipment was completely different than their typical tender. They extended it by an extra two, three weeks. Pro rata, you're going into a tender before mid-November, but you're still allowing shipments till the 7th of January.
This has never been the case before, obviously, you get even production into January, which is not yet committed or marketed with a lot of producers. You will get volumes for a lot of people that haven't sold the first week of January, and that also added to a combination of multiple counting of the same volumes and a longer duration. Your other question was?
Benchmark and realized.
Benchmark and realized. When you look at the trajectory of pricing throughout Q3. July, you came off from practically no demand, big discounts for the summer fill program in the U.S. Then the market started to pick up late in August and September. There is a timing effect. October prices are significantly higher than even those in September. Through Q4, you're going to see higher realized prices. A lot of also variance between pricing ex-factory and pricing that is delivered to customers. That also sometimes changes the final number. All in all, starting from October till December, price variances have been quite predictable and small.
Okay. Thank you.
Thank you. Your next question comes from the line of Faisal Al Azmeh. Please ask your question.
Yes, fine. This is Faisal Al Azmeh from Goldman Sachs. First of congratulations on the ramp-up of Natgasoline, a nd thank you for taking my questions. Three questions on my end. First, will the Beaumont expansion require a shutdown next year? If so, for how long? Then on IFCO, you've mentioned the department will allow you to achieve higher operating rates, approximately, I think 118%-120% next year. Is this only for the ammonia line or is it for other lines as well? Finally, on your gas hedges, other than IFCO, what kind of hedges do you have in place for OCI Beaumont as well? Thank you.
Sure. First of all, the Beaumont project will not require a shutdown and should happen by summer this year. It's an addition. We don't want to give up what we're doing, but we're introducing a boost of product to upgrade the quantity that we can refine there. This became a no-brainer for us. The project has less than a year of payback. The question on the permitting, there are two positions of the permits. One is the upstream and one is the downstream. We are getting amendments to the permit to allow us to go up to 120% on urea of nameplate and 120% of ammonia on nameplate. We are already achieving on some days 118% of urea. The permits cover also the upstream and the downstream. Is there any more questions?
Yes.
Did I answer all your questions or you have another question?
Yeah, I had a third question on the hedges, natural gas hedges for OCI Beaumont as well.
Yeah. Again, we have this 50% overall collar, but we have opportunistically both, for example, for Beaumont, I think we acquired the gas through up to 80%-some till February, March. Within the collar, we do some selective forward buying.
Okay. Thank you.
Thank you. There's no further question at this time. Please continue.
Thank you very much for your time and for joining us, looking forward to our next for the year-end results. Have a nice day, ladies and gentleman.
Thank you, everyone. That has concluded our conference for today. Thank you for participating. You may all disconnect.