Earnings Call: Q2 2019

Aug 12, 2019

Good morning, ladies and gentlemen. At this time, we would like to welcome everyone to Cosan S. A. Second Quarter of twenty nineteen Results Conference Call. Today with us, we have Mr. Felipe Casale, Investor Relations Executive Manager and Mr. Juan Guatur Solza, Head of Finance. We would like to inform you that this event is recorded and all participants will be in a listen only mode during the company's presentation. After Cazelle's remarks, there will be a question and answer session for industry analysts. At that time, further instructions will be given. The audio and slideshow of this presentation are available through live webcast at ir.cozan.com.br. The slides can also be downloaded from the webcast platform. Before proceeding, let me mention that forward looking statements are based on the beliefs and assumptions of Cousin's management and on information currently available to the company. They involve risks, uncertainties and assumptions because they relate to future events and therefore depend on circumstances that may or may not occur in the future. Investors should understand that general economic conditions, industry conditions and other operating factors could also affect the future results of Cossence and could cause results to differ materially from those expressed in such forward looking statements. Now I will turn the conference over to Mr. Felipe Casale. Mr. Casale, you may begin the call. Good morning, everyone. Welcome to COSAN SA's second quarter twenty nineteen earnings conference call. 2019 started with more promising signs of economic activity. Delay in approving pension reform, however, ended up frustrating a bit those expectations and causing economic activity to slow down throughout the quarter. But the diversification of our portfolio assured consolidated EBITDA growth for Cozan. Before we go to results on Slide four, I would like to take the opportunity to explain the structure and the rationale of the deal around convenience stores announced by Raizen last week. Raizen sold 50% stake of its convenience store business to FENSA forming a fifty-fifty JV. Their convenience store business was valued at BRL1.1 billion of enterprise value, implying a multiple to EBITDA around 13 times. FEMSA will pay R560 million for its 50% stake. Once this transaction is complete, each partner will inject R160 million dollars in the JV to support expenses and investments for the first three year cycle in which we expect to add some 500 new stores. This JV will operate with two solid brands Shell Select for traditional service station franchise model and OXXO, which will focus on the proximity stores market. Raizen's partner brings proven expertise and leadership in the retail segment, which will enhance our growth capacity in this segment, helping to upgrade our value proposition to franchisees who are core to Raizen's strategy and bringing greater efficiency to investments and operations. Closing of the deal is dependent upon the approval of the antitrust commission, CAGI and other standard conditions. Let's move to Slide five to discuss Raizen Combustive's results. Raizen delivered the higher sales volume and EBITDA in the quarter, rising 85% respectively, reflecting consistency of its strategy and solid operations. Before discussing the second Q twenty nineteen, let's take a look at historical second quarter margins trends related to the dynamics of ethanol prices and mix as seen in the chart. Talking specifically about the same period last year, the second Q twenty eighteen, the results reflect two different moments. Before the truckers' strike, prices were all on the rise, positively impacting inventories. The strike, however, reversed the trend ly causing relevant inventory losses due to diesel price cut on top of reduction in sales. Now in the second Q twenty nineteen, a set of events adversely affected margins of the main products. Starting with ethanol, a significant drop in prices as well as a greater share of photo cycle mix resulted in seasonally stronger inventory losses. Gasoline and diesel faced a typical adjustment seen this quarter, reflecting change in period of Petrobras' price adjustments resulting in lower gains related to the supply strategy, which as you know, encompasses inventory management and imports. In the aviation segment, Avianca's Chapter 11 process and the negative price move depressed the results of this segment. Remember that demand has not been growing as market expected for a while, following lower economic activity in Brazil. Despite this, Raizin delivered solid growth, maintaining its focus on expanding and strengthening the relationship with the services stations network, while keeping the consistency on its supply and the commercialization strategy. Now let's move to Slide six to discuss Raizen's results in Argentina. And I would like to first highlight that as we have been reporting, the results of the Argentina business is in U. S. Dollars, which is the functional currency of the downstream operation. The quarter preceding the primary elections in Argentina was marked by lower peso volatility and a relatively stable economy. Even so, demand for fuels remained depressed. Speaking of volume, diesel and gasoline sales in the quarter were approximately 5% lower than in second Q twenty eighteen. The aviation fuel volume grew nearly 20% year over year in line with the increased customer base and the higher market share. The total volume processed by Raizen's refinery came in line with 1Q twenty nineteen with normalized utilization rate. The quarter's EBITDA stood at $47,000,000 due to lower sales volume and investments totaled $11,000,000 most of which of maintenance of the refining operation in line with the expectations for 2019. Now moving to the next slide, we'll present Raizen Energia's result. The twenty nineteen-twenty twenty crop year started after a short delay due to rainfalls in early April, reducing crushing volume by 7% in the Mid South region of Brazil, including high easing. The average sugarcane yield was 9.3 kilos of TRS per hectare, a reduction explained by the lower concentration of sugar content on the cane. The production mix continues to prioritize ethanol, which came in at 51% in line with the commercialization strategy for 2019, which focused on the sale of higher return products. Speaking of sales, let's start with sugar. Hiding reduced the volume sold, building inventories for sugar commercialization during periods when the yield is maximized and in line with the hedge position. The average sale price in reais was 16% higher in the quarter as we announced in previous conference calls, given better pricing for this crop year. On ethanol, Raizin accelerated the own sales by 8% in the quarter to take advantage of stronger demand with a 9% rise in the average price compared to the same quarter last year. We maintain an economic hedge for part of ethanol sales usually at better prices than those seen in local market. Along with strategy for sugar, the ethanol hedging aims at protecting profitability and cash flow, mitigating risks imposed by price volatility. Co generation results were impacted by WX operations, our electricity trading company. We are therefore highlighting our own volume sales since the trading activity made by WX generates higher revenue, though with a substantially lower margin than the sale of electricity generated by high easing. With that said, our own volume sold was 11% lower in the quarter due to a reduction in crushing volumes and the average price of own electricity sold was in line with the same period last year. Worth noting that electricity spot prices were significantly higher during the second Q18 last year due to the drop, which did not happen this year. As for cost dynamics, the unit cash cost of our own products sold in sugar equivalent was R719 dollars per ton, 17% higher than in 2Q twenty eighteen. Main impact was the lower dilution of fixed costs due to this delay in the beginning of the crushing season and inflation in the period. Adjusted EBITDA stood at BRL402 million in the quarter, down 18% from second Q twenty eighteen, mainly reflecting a reduction in the own volumes of sugar and bioenergy sold as well as lower cost dilution as I just mentioned. As for sugar hedge, Raizen hedged virtually all of the 35% of the total volume with an average price of BRL0.61 per pound. The price scenario for sugar have not changed much since our last conference call. The sugar prices are still pressured, especially in light of another expected strong crop year in India, while the mix in Brazil points to a higher share of ethanol. Raizen always aims to seize new opportunities to improve the profitability of sugar and ethanol prices by optimizing sales and production mix. To conclude the presentation of Raizen Energia's results, investments in the quarter rose 30% to BRL630 million due to increased winter planting and sugarcane field renewal as indicated in the year's guidance. As announced in our previous conference calls, we are stepping up the renewal of sugarcane fields in order to increase the agricultural yield over the course of the upcoming years. In addition, we incurred higher expenses mainly related to asset integrity and intercrop maintenance due to the delay in the harvesting period. Moving now to Slide eight, where we will present Conga's results. The 2019 was marked by the completion of the fourth tariff review cycle, which was delayed for quite a while as you all know. Business plan and general conditions were defined for the twenty eighteen to twenty twenty four cycle, and the outcome of the review came quite in line with the expectations and bring back regulatory stability and improve the business environment for CONGAS. Now let's discuss the quarter's highlights. Natural gas sales increased by 3% in the second Q twenty nineteen across all segments. In the industrial segment, sales growth is due to greater demand from some industrial clients and a weak basis for comparison due to the truckers' strike last year. Residential and commercial segments continued to grow supported by the addition of new clients. In the residential segment, sales growth was partially offset by lower unit consumption affected by a higher average temperature in the period. Normalized EBITDA totaled R583 million dollars in the quarter, up 19% due to an increase in the volume sold as well as the annual margin correction in accordance with tariff review. IFRS EBITDA growth was due to a current regulatory account movement, which left Comgas with an active balance of BRL230 million in at the close of the second Q twenty nineteen and this balance is in favor of Congas. The company also invested BRL200 million in network maintenance and expansion. The year over year increase resulted from the investment acceleration following the completion of the tariff review process and regulatory commitments defined. Now let's discuss move results on Slide nine. Lubricants sales maintained an upward trend in operations across all countries over the last twelve months. Thus, adjusted EBITDA in the quarter was 18% higher than in second Q twenty eighteen. Speaking of COSEN corporate results, on the right hand side of the slide, we present general and administrative expenses, which increased to million due to marketing expenses concentrated in the quarter, but in line with annual plan. Other operating expenses came in line with comparison basis. Moving to Slide 10, let's discuss the consolidated result of Coosa NSE pro form a considering 50% of Raizi. COSA recorded an increase in net income as well as in consolidated adjusted EBITDA, confirming the robust performance of our portfolio. The improvement performances of CONGAS, Raizi and Combusives, MOVE and the consolidation of Raizen Argentina mitigated Raizen Energia seasonally weaker results. Investments in the quarter also increased, but are in line with the guidance. On the next slide, we highlight the main impacts on cash flow, starting with the operating cash flow, where CONGAS was the main contributor on improving normalized performance and current regulatory account movement in the quarter. In the financial cash flow, COSMAN disbursed million on the acquisition of common and preferred shares of Comgas as part of the voluntary tender offers announced in the first semester of the year. Remember that the preferred shares process is now over, while the common share process will end on September 4. To date, we have reached 99.1 stake in Congas. As a result, cash consumption reached BRL371 million in the period. In addition to the effects mentioned, the second quarter of the year represents the first quarter of the Raizen Energia crop year when working capital goes up due to inventory buildup. Last but not least, COSM paid BRL392 million worth of dividends to its shareholders in May. Pro form a gross debt rose by 7% in the quarter, specifically in high easing. Cozelle's average cost of debt equaled 107% of CDI or 115% of CDI if you exclude high easing. The pro form a leverage ratio after the usual adjustments ends up the period at 2.2 times net debt to EBITDA. Now let's move to Slide 12. And before concluding the presentation, I would like to reiterate here our expectations for the year. There's only one update since our last earnings conference call. Convaas tightened its CapEx forecast range, which is now between BRL800 million and BRL900 million, in line with the business plan defined in the tariff review process. All of the projections, both for our business and Cusan consolidated remains unchanged, and we keep the focus on delivering it once again. This concludes our presentation and we are now taking any questions you may have. Thank you. Thank you. We will now begin the question and answer session for investors and analysts. Our first question comes from Luis Carvalho, UBS. May proceed. Hi, Felipe. Thank you for the call. I have basically three questions here, if I may. The first one is regarding Argentina. I mean, to the recent events in the country and the depreciation of the currency, I just would like to know the company approach in terms of passing through the prices through to domestic prices? And how this could impact the $210,000,000 between $210,000,000 and $260,000,000 EBITDA guidance for this year? The second point is about the distribution margins in Brazil in Raizen Compostilles. We saw somehow drop as well in the first compared to the first quarter. There's a chart in the presentation that shows that, I don't know, years ago, we had a rebound. So if you can share with us perspective, albeit to the margins behavior during the second half of the year, that would be useful. And my third question is more about the potential investments in potential new businesses. I mean there is lots of opportunity with the I'm going to talk in Portuguese, potential natural gas pipelines in the natural gas distribution. So how concern is preparing potentially to actually to join this market and take some advantage of integration? Thank you very much. Hi, Luis. Thanks for your question. So starting with the first one in terms of Argentina. Of course, as we have been stating in the past few calls we had with the market, Every time you have a strong or a max depreciation of the Argentinian peso, this may impact the short term ability of the company to adjust the prices at the pump in peso terms. Right? You know, this is a US dollar's functional currency business. Right? But over time, what happened is that we see that the prices adjust throughout the following month. So when you look, you know, despite the, you know, political and economic environment, on the long run, EBITDA has been relatively stable in different, again, political and economic environment. So with that said, we are, confirming the the guidance for the year, which has a wide range that, would absorb, those volatilities that we are seeing right now. So there's no plans as of now to change the guidance, but of course, we are aiming more to the low end of the Argentina EBITDA guidance as of now. When we look at the distribution margins in Brazil, we've been pretty clear that the market saw part of the movements on prices, which impacted the results specifically on the second quarter. We remembered that the second quarter of the year usually is the one where we see the the the the the impact on the margin mainly due to the the ethanol pricing performance here because of the the of the beginning of the harvest. We have this quarter specifically a change of the period of the price movements from Petrobras, which impacted, of course, our ability in terms of delivering what we expected at first. And as well, we are seeing demand not as one could expect from the beginning of the year. So when we look on the first quarter of the year, we even saw a slightly grow in January on the other cycle volumes. But after that, along with the the adjustments or the growth expectations for Brazil, the volumes, of course, reflect part of this this this this change in the expectation. Right? So putting all of this together, the second quarter had all the impacts that I mentioned in the call. Basically, in the three products, ethanol, gasoline, diesel, and adding that the aviation business. But when we look at the second semester in that that that's part of what the presentation shows on that on that graph. The second half margins usually shows a rebound, and that's what we are expecting again looking at least what is implied on our guidance. But in Raizen, we are as of now looking more to the lower end of the guidance rather than the top as or the mid as we were before. We're looking for for new business as you mentioned. There's all these discussions in terms of the the the the new gas market. I'm not gonna discuss here specific projects, But as a whole, what you should expect in Cozon is that we participate in the discussion. As you know, we have Congave, which is the most relevant distribution of natural gas in Brazil. This brings us a lot of opportunities to look at other alternatives, not only on the supply of the gas, but also the commercialization. And that's what we are going to study as of now. So as a group, here, we're gonna look at all those discussions and participate actively to decide what where we're gonna put more effort on. Thank you. If I just just just check if I understood correctly. So in Brazil, you're also targeting the lower part of the guidance. Correct? Yes. For for Brazil, we are now looking more to the long range of the guidance rather than the the need that we we always do, when we set the guidance. And remember, we we designed this we developed and we analyzed this guidance when the GDP expectations for the year was around 2%, 3%, right? And this has moved over the first semester of the year. Okay. Perfect. Thank you very much. Next question comes from Regis Cardoso, Credit Suisse. Hi, Felipe. Thanks for taking the question. I will assist a little bit more on the fuel distribution theme. If our calculations and assuming that the range in GDP you just mentioned are correct, you'd require some margins of around EBITDA margins of BRL 115,000,000 to BRL 120 per cubic meter in the second half of this year in order to reach the low end of the guidance, which I mean, it's feasible. And it seems particularly given the positive seasonality of the second half. And it seems how are aligned with your original expectations for the full year of 2019. But nevertheless, it's a big jump from the current per cubic meter you posted in the second quarter in Raizen Combustive. So my question is, what do you believe needs to happen for you to be able to reach that guidance or that is to materialize this much higher level of margins in the second half? Does it require having import gains? Does it require having inventory gains that revert any past movements? Or is it for you just maintaining the replacement margins that you had at the end of second quarter? Or do you still have to count on further expansions? I mean, so my question more generally is, what needs to happen so that you'd be able to reach these much higher margins between 115,000,000 and $120,000,000 coming from '85? Ashish, thanks for the question. Well, we discussed a little bit the impacts of the second quarter of twenty nineteen. And actually, pressured the margins in the quarter specifically, which we cannot guarantee that that same effect will be present on the second half. Right? So what we are looking here historically is that the second half shows an improvement on margins, right? And this is what is implied on the guidance as we mentioned. We're going to keep the focus on our supply and our commercialization strategy. So looking at opportunities on the imports, managing the inventories, and this is part of the recurring, of the recurring strategy of Hialeah. So it's, keep the managing the business, looking at the long term, relationship with our resellers, focusing on maximizing and having adequate return for the business. So we're gonna do more of the same. And again, the second quarter was impacted by specific events that we mentioned on the call. Thanks very much. If I may, just a second question on Comgas. Just if you could update us briefly on how's the discussion regarding the depending decisions or depending discussions for the past tariff review cycle, the one that was skipped? As you know, it's scheduled to find yet for this process. Convais and the company will let the market know as soon as we have news about that. Thank you. Next question comes from Fernando Cunha, Citibank. Hi, guys. It's actually Pedro Medeiros. Okay? Well, I have a couple of questions related to the JV recently announced with Sensor. Can you walk us through, like, the expectations of value creation from that JV? And whether is there any plan to include your Argentina assets into that joint venture? Second question is about capital allocation, okay? It's a very specific question. If you can talk about potential M and A opportunities in the natural gas market and whether the company is evaluating any potential opportunity there. Okay. All over that. These are my two questions. Pedro, thanks for the question. So first thing in convenience store business, that we brought a partner here that has a well known expertise, on the retail business and will help us and develop, not only the convenience store business, but also the proximity one. Right? So the JV is to operate in Brazil, and we have a plan to reach in the next three years around an additional 500 new stores. Right? So this is the initial plan here. The company will have the BRL $320,000,000 that we stated for expenses and investments on this first cycle. And it's again a JV form to operating in Brazil as of now. In regards to your question about the gas business, we have to remember that Brazil is long in natural gas. And Congas has an operation here specifically on the concession area. And there is that's what at Cozen, we're going to look at the opportunities being Brazil again long in gas, right? But there's no definitions or anything that we can share right now with the market. Okay. Okay. Thank you so much. Next question comes from Luca Cerrada, JPMorgan. Hi, Felipe. Good morning, everyone. My first question, Felipe, on the sugar and ethanol business. So how do you see your perspectives for the full crop in terms of crushing and productivity? If you can share if that changed in the last couple of weeks or not. And if you can still think about reaching the sort of a midpoint of the guidance of EBITDA for the full year and CapEx as well? And my second question regarding the JV with Penta. If you guys have already defined who's who's gonna be running the JV, who's gonna be the management team, and and, if it's not yet defined, when that should happen? And, who's gonna be electing this? I I suppose, of course, the new board, but, is there any kind of sort of appointment by by FEMSA of of bringing someone from from their operations, if you can give us more details? Thank you. Yes, guys. Thanks for the question. I'll start with the second one first. So the JV will have a board with six members, three appointed by each shareholder. That's after the closing of the deal, we'll define the names that we run the business. So, it's it's not it's it's not public, and it's not defined yet. So this will come as soon as we have the closing of the the business and, again, board, of the company electing, the executives. And going forward, your question in the sugar and macros, the perspective for the crop, we we regulate our guidance looking at the midpoint of of questions. So we're talking about 62,000,000 tons for the crop year. There is no change on that. We are focusing a lot, as we mentioned, on doing the planting and the harvesting the most efficient way, improving the technicals and the specific technology that we implemented to use and to harvest better our crops here. And you as you remember, the first cycle of investment in Raizen was focused on logistics, and we are now putting more effort on optimization, and improving productivity, of our sugarcane fields. So, the increase of the renewal, used to decrease the average age of our sugarcane fields and by consequence improving the productivity of our fields. So looking at the guidance, we are still aiming here the midpoint for Raizen Energia not only for EBITDA but also for CapEx. Thank you, Felipe. To ask a question, please press star one. Thank you. With no further questions, I would like to turn the floor back over to mister Felipe Casale. You may proceed. Thank you, everyone, for joining the call, and talk to you in the next opportunity. Thank you. That concludes the question and answer session for investors and analysts and also the call. Have a nice day.