Earnings Call: Q2 2018

Aug 16, 2018

Summary

Q2 revenue and EBITDA grew, with U.N. Ro-Ro contributing from June. FY EBITDA guidance was maintained despite bunker costs and Turkish lira risks; investments were lowered to DKK 5.0bn.

Ladies and gentlemen, welcome to the DFDS Q2 report 2018. Today, I am pleased to present CEO, Niels Smedegaard. For the first part of this call, all participants will be in a listen-only mode, and afterwards, there will be a question and answer session. As a reminder, this call is being recorded. I will now hand over to the CEO. Please begin. Thank you, and welcome everybody to our second quarter call. Joining me as always, I have CFO Torben Carlsen and Head of Investor Relations, Søren Brøndholt Nielsen. We will take you through Q2 highlights and the numbers. We will also talk about U.N. Ro-Ro and the current situation and impact around the Turkish lira volatility towards the end of this presentation. Let's turn to page 3. It is a quarter which was fueled by our acquisitions, showing growth both on top line and earnings. We were able to close the U.N. Ro-Ro transaction fast and consolidate already from June 7, resolving an 141 million additional revenue on the top line and 50 million EBITDA. Our group revenue is up 6% and EBITDA up 9% to DKK 802 million. When you look at the graph on the right-hand side, you see another good development for the second quarter compared to previous years. EBITDA outlook for the year is unchanged at DKK 3 billion to DKK 3.2 billion, and Torben will talk more about that a little later. Our financial leverage is increased following the acquisition of U.N. Ro-Ro, and you have the numbers here, both pro forma basis and recorded basis. Let's turn to page 4 and try and go behind the numbers in the second quarter. We ride a bit more headwind than tailwind, and that is primarily due to the increasing bunker price throughout the quarter. In fact, the price is up 47% in this quarter versus 2017. A little tailwind from the lower dollar, but all in all, a significant increase of cost. When you incorporate the different factors, we think the total EBITDA impact in the quarter is around DKK 40 million. Some of this is a temporary phenomenon. We do have bunker adjustment clauses in our various rate contracts, but there is one to two months of lag before that is worked into the numbers. So, a negative impact here in the second quarter. Also, a little negative impact from the currency side, especially the Swedish krona was down during the quarter versus last year, adding another DKK 8 million-ish to the EBITDA impact. We will talk more about some of the other factors. You will see later that basically all units are doing on level with previous year's quarter or better, except on the passenger side. They, of course, impacted by bunker, but also seem to have had some disruption due to the World Cup. A number of the inbound international guests did not turn up as expected. Overall, we think there is a decent underlying growth in spite of the diverse political issues we have seen during the quarter. With that, I will hand over to Torben, who will take us through the numbers. On page 5, see that our 6% revenue growth is driven by both U.N. Ro-Ro and continued growth in our freight volumes. When just looking at like-for-like basis, we are up 4% on revenue. EBITDA is up 9% to DKK 802 million, as Niels mentioned, driven by U.N. Ro-Ro and strong growth in logistics. The depreciations increased DKK 35 million, mainly due to acquisitions and continued investments in IT and digital. Special items spiked to DKK 63 million due to DKK 47 million from acquisition costs. Due to the increase in depreciation and acquisition, we see a flat profit before tax of DKK 494 million. ROIC impacted by our newly acquired assets, so that we now have 16.9% ROIC, which will, as we have a full year comparison, drop to 13% with the full year U.N. Ro-Ro impact. Turning to page 6, where we can see the EBIT impact across the different business units. We see that North Sea is up DKK 8 million from continued volume growth, which is reduced by lag in bunker cost recovery. Channel, plus DKK 1 million. Strong market share development, but positive group contribution offset by extra ferry maintenance costs and again, lag in bunker cost recovery. The Mediterranean is up 22%, which is the impact of the addition of U.N. Ro-Ro. As Niels mentioned, our passenger unit is down. It is down DKK 30 million. Its cost increases from bunker. It is increased ferry maintenance and then some adverse impact from change in overseas booking behavior and weakness in our Norwegian sales. On the logistics side, Nordic shows DKK 9 million plus due to strong results from contract logistics activities, which are offset from a lag in recovery of higher haulage costs, again, due to the increased bunker cost. Continent is up DKK 5 million from continued good trading, offset from lag in recovery of the haulage cost, and also fueled by the addition of Special Cargo or Alphatrans earlier this year. Turning to page 7. Our capital structure, which is in line with our target leverage. We see that our net interest-bearing debt to EBITDA is at 2.9 end of Q2. Again, with a full year pro forma impact of U.N. Ro-Ro, this would drop to 2.4. We completed a share issue in connection with a transaction of DKK 1 billion in June, as previously announced. The net impact is that our net interest-bearing debt increased to DKK 9.5 billion by the end of the quarter. As usual, the board will, in connection with the release of the Q4 numbers, review our capital structure and distribution. Turning to page 8. You see that our EBITDA outlook is unchanged at DKK 3 billion to DKK 3.2 billion. We expect real GDP growth above 2% also for the remainder of 2018. We have seen some slowdown in the U.K. market, but expect demand for ferry and logistics services to remain robust also in H2. Our development of digital and IT capabilities are progressing as planned. The only small change to our outlook is that our investments are down from DKK 5.2 billion to now DKK 5 billion. For obvious reasons, our outlook is associated with a somewhat higher level of uncertainty than usual due to the Turkish lira volatility that Niels will talk more about on page nine. Thank you, Torben. On page nine, let us talk a bit about Turkey and the situation surrounding the currency. Depreciation of Turkish lira is not a new thing here in 2018. This is a natural thing given the higher inflation rates in Turkey vis-à-vis EUR or U.S. for that matter, partly a consequence of the high GDP growth in Turkey, which was around 7% last year and also into Q1 this year. When you look at the inflation rates 2016 and 2017 versus the depreciation, you will see on the graph on the right-hand side for the same two years, you will see that it is roughly depreciating 7% additionally over the inflation. Then we come to what happens here in August 2018, where the diplomatic rift with Washington and Turkey sort of pushed the lira over the cliff for a while, at least. That is, of course, a situation with numerous consequences. If we zoom in on what will it mean for us, turn to page 10. There are two effects. Let us start with the first one. It will have an impact on our financial line items, and we sort of term it a one-off effect. It is a currency loss on our debtors. The way we operate, the way the company has operated for years, is to set the prices in EUR based on sort of the estimated depreciation of the Turkish lira through the year and other factors, the pricing is set. The time we invoice the customer, that EUR amount is translated into Turkish lira. Until the customer pays, we have an exposure to the Turkish lira, and they typically pay within a 60-day period. We have roughly an exposure of around DKK 300 million at any given point in time. So when we then get the sizable depreciation, of course, it has an impact. At the bottom of the page, we have shown the impact recorded in our books for this situation in June, DKK 6 million. In July, where the depreciation picked up, it was 7%. It amounted to around DKK 27 million. Then we show the impact from 1st of August to the 15th of August, where the impact is DKK 48 million, you can say, unrealized. It will fluctuate up and down with the Turkish lira development. But based on these numbers from June through August 15, the impact on our finance line is DKK 81 million. Again, that number can change depending on what happens here in August. So that is the first item. The second item is described on page 11. That's more the trading side. So far, we have had a fairly balanced import-export scenario, but we can see as the Turkish lira also have devalued or depreciated during 2018, and due to the growth in the Turkish economy, export volumes has increased 17% during the first half year, whereas the volume of the import volumes were up only 3%. That difference is, of course, that divergence in growth rates is starting to create some imbalances. The current depreciation is impacting, to a larger extent, these imbalances. But once the Turkish lira is stabilized, we expect imports, of course, to sort of resume, but likely at a lower level. It is simply more expensive to import stuff into Turkey, whereas Turkish goods will be very competitive, and the depreciation will fuel the export out of Turkey. Net, this will, of course, initially have a negative impact. However, the drop in imports will be mitigated partly from the growth in the export volumes, but also the fact that a significant part of the import to Turkey is not consumption-driven, but it is import of semi-manufactured goods, which will be used in the manufacturing process of finished goods in Turkey and then re-exported. So there are some elements you can say, working in favor of a reasonable, stable development. But net, we expect a period with lower, especially import volumes. But with the current visibility we have, we do, as Torben mentioned before, maintain our EBIT outlook for the year, both for Euro RoRo and for the group as a total. Turning to page 12, and just a quick look at the priorities for the rest of the year. Of course, integration Euro RoRo is high on the agenda. We'll finish our 100-day plan here the 18th of September. The work in the 18 work stream is progressing extremely well, good cooperation, and encouraged by the synergies, which we identify as we continue this work. We have a range of internal things. Everything from the digital strategy development Torben mentioned over efficiency projects, turnaround situations, et cetera, and also preparing for the first of the two RoRo new buildings, which we'll get beginning next year. In addition to this, we continue to look at potential value-creating acquisitions as well. So, yes, some choppy waters around Turkish lira right now, but we are confident we can deliver the guidance we have established. We have a good team in place in Turkey. It's not the first time that Turkey is exposed to a hard time. A few years ago, there was an attempted coup, which created some disruption for a couple of months, and then Turkey was back on track. We're of course monitoring this closely, but there is a good resilience in Turkey in situations like this. So we are, in spite of the seriousness, we are comfortable around the situation. With that, we would like to hand over to any questions you may have. Thank you. Ladies and gentlemen, if you do have a question for the speakers, please press 01 on your telephone keypad and you will enter a queue. After you are announced, please ask your question, and please hold until we have the first question. Our first question comes from the line of Finn Bjarke Petersen from Danske Bank. Please go ahead, your line is now open. Yes. Good morning. Questions regarding, not surprisingly, Turkey. If we look at the, you are starting out with a balance trade. Could you give some indication what is your free capacity or utilization rate on the leg going from Turkey to Europe? That is one question. The other question is how is pricing affected by the change situation? Finally, has this any cost implications? Thank you, Finn, for three good questions. Let us start with the first one. I think roughly the utilization on average is around 82%. So there is a little more space left on the vessels to pick up and increase the export. Of course, U.N. Ro-Ro has peak departure dates, so there are certain days which are more favorable and there, the vessel would be close to full, but I think we can accommodate a little bit more, and then we will just have to evaluate the situation and see if we need to do any vessel swap within our network, also from Northern Europe. On the pricing impact, our prices are set, and we operate with those prices, so there is no immediate change to the prices. Of course, if we see a significant slowdown in the imports. We will have to work with our customers to make sure that the round trip situation is working like we are doing always. We will, of course, work together with our customers to get through a temporarily difficult situation. On the cost side, part of our cost is in dollars, part is in euro, and part is in Turkish lira. Of course, with this depreciation that will play in as well. But we are not at this time breaking that down with more detail for you. Okay. I reckon that the first is stronger, and the rest is all ship-related cost, and then the final is that your terminal cost in Turkey or something. Staff cost is typically in Turkish lira. Staff, is that all staff? In numbers of staff, yes. The far majority is in Turkish lira. Okay. Now you mentioned the effect on the Turkish import-export, 17%, but that is not your volumes, is it? What is your volume development in U.N. Ro-Ro in the second quarter and first quarter this year-on-year on import-export? Leif, we are just confirming here to I think our volumes are up with similar numbers in the first half-year on the export side. On the export side? Yes. You started with a balanced rate? You started the year more or less with a balanced rate. Okay. The question is the customers, because here we are talking about typically you have a round trip, not a one-way like the North Sea. Does that mean that all your customers are basically Turkish companies? It is primarily operators out of Turkey. But it's not all customers. Not 100%, but- But by far the majority is Turkish, yes. Yes. Okay. And what is their alternative? Running the road, that's one thing. But are there other alternatives they can use for this export? The main alternative is to go via the roads if they completely change the setup and employ more drivers, et cetera. However, the drivers are, as we understand it, typically paid in EUR. So, it's not like we're getting a dramatically different competitive scenario between road and sea. Okay. Yes. To something completely different. One-off cost. How many questions do you have, Finn? How many am I allowed? Just one more? Yes, absolutely. Okay. There are one-off cost in both passengers and English Channel, I understand. Passengers, because the vessels are turning pretty old and have to go through 25 years special survey. Could you elaborate a little bit about how much extra cost are there in the result due to those things? I think we will not characterize the costs in passenger as one-offs. They are largely split between higher fuel costs and higher vessel costs, which is indeed related to the investments that we have done in the vessels over the last years, which are depreciated over relatively short periods. So that's where the main cost drivers come from. The revenue is more or less on level with last year, despite the fact that we are adversely impacted by the Easter. It is a cost-driven downturn in passenger. The final thing, the negative effect that we saw in the second quarter in passengers due to a bad mix, and I understand that incoming passengers is missing. How much of that effect do you see spread into the high season Q3? It really will continue into Q3. Okay. Thank you. No further questions. Thank you, Finn. Thank you. Our next question comes from the line of Lars Heindorff from SEB. Please go ahead. Your line is now open. Yes, morning, gentlemen. Lars Heindorff. Thank you, Finn, for allowing us a bit of time for some questions. First, regarding the guidance. You mentioned that the impact from bunker in the quarter is roughly DKK 40 million on EBITDA. Could you give us an indication what kind of assumptions you have made for the second half in your guidance? We are assuming that, well, we know what the bunker cost is right now. We will see a continued slightly negative impact in the beginning of the quarter, and then we believe that we will have a more neutral development for the rest of the year. You assume roughly flat from current levels. Is that correctly understood? That is correct. Okay. Regarding U.N. Ro-Ro, the impact here in June, what I am after is the seasonality in earnings down there. Is June unusually strong or how is seasonality looking on those trades in U.N. Ro-Ro? June is not a strong month. Very roughly, you can say that the second half is stronger than the first half of the year in terms of volumes. June was impacted by Ramadan and also the election, which played a certain role. August is their big summer holiday. There is another big week coming up next week where Turkey basically shuts down. It is probably one of their weakest months is in August, then picking up through high season in September. Okay. The split between first half and second half, roughly, normally? Call it 55/45. There is more Okay, close. in half then, yeah. Okay. Then regarding, you mentioned yourself earlier in your presentation a little bit about U.K., and you have seen a little bit of softness there. But still, when we look at North Sea, lane meters still growing mid-single digits, almost 6%. So looking pretty healthy. How much capacity have you added year-on-year to achieve that growth? On the face of it, I would say we haven't added capacity. There is some compared to Q2 last year, there's extra capacity on the Gent route. Yeah. Also perhaps some larger ships, not more ships, but some larger ships on Cuxhaven. They are not utilized. No, but capacity-wise- Yeah It's perhaps 5%-7% in that ballpark. Okay. Then you do see a little switch from the channel towards the North Sea due to this continuing difficulties for our customers to get drivers always. So you will see a slightly declining overall channel freight market. Søren, you know it's one point- Yeah. Around 1%. Around 1.6% down. Yeah. Some of that is moving up to the North Sea to us and of course, to some of our competitors. So they are artificially boosting the North Sea. Yeah. We also cut back some capacity between Holland and the U.K. to Rotterdam inland. Okay. Going into the second half, when we look at that sort of year-on-year capacity growth, is that going to be same trend as we have seen now? You mentioned 5%-7% in the second quarter. Or will that be more even compared to last year? It will not be more compared to last year. I am not convinced that we have much more capacity second half than we had last year. Okay. But we can look into that. I am just trying to get a sense for the underlying growth. Of course, if you add a lot of capacity, then you should grow also your volumes, but that- That is not the case. The capacity added in Cuxhaven is more technical that we had to put in a larger ship than we in reality need. So this is not a capacity-boosted growth scenario. We are moving the ships a little bit around to adjust for where we see the current growth, but there are no new vessels coming in. Overall, we have shut down one route, the Zeebrugge-Rosyth on the North Sea. Yeah. Those volumes, it was a break-even at best, slightly loss-making route, but that will disappear also in the coming quarters. Okay. Last question, maybe a follow-up on some of the things, and that is regarding EU and Ro-Ro. I do not know if you can give us any indication about the cost. You talk a lot about the balance on the trade, and now the imbalance obviously increased with more export and less import. But the cost of rebalancing trailers for those customers, how is that impacting the cost base and margins? I do not think it is impacting the cost base. Not a lot. There will be some specials you can say will impact the top line a little bit, the revenue side, that we have to work with the customers to get their trailers back, et cetera, and that will put pressure on the yields. I think that will be the major effect. Okay we'll see from that. Okay. All right. Thank you very much. Thank you, Lars. Thank you. Our next question comes from the line of Ruairi Cullinane from RBC. Please go ahead. Your line is now open. Good morning. I've only actually got one question remaining, and I was just wondering if there was any risk of impairment, just mechanically from the depreciation of the Turkish lira, or would you have to see a deterioration in financial performance U.N. Ro-Ro first? If you could talk us through your risks there, that would be great. Thanks. Yeah, thank you very much. No impairment in sight due to these developments. Nothing there. Part of the acquisition price is on our balance sheet as goodwill. Some of it is spread across customer portfolios and our long terminal contracts in both Istanbul and Italy. No need to worry about any impairment thoughts at all. Okay, great. Thank you. Thank you. Just as a reminder, if you do want to ask a question, you will have to press 01 on your telephone keypad. Our next question comes from the line of Marcus Bellander from Nordea Markets. Please go ahead. Your line is now open. Yes. Thank you. You would think that all questions have been answered by now, given how many Chris, you gentlemen asked, but alas. First question regarding Turkey. You mentioned that you expect a drop in imports. Is that sort of your best guess, or is that what your people on the ground are seeing already now? That is what our people on the ground are seeing already now. Okay, understood. Second question, you mentioned in the presentation that your exposure to the Turkish lira was about TRY 300 million due to debtors. Is there no offsetting lira exposure to creditors? There is some, but we can see that the net exposure is on our finances. We of course benefit from our local cost in lira. But, it is minor compared to the numbers you see here. I think we should mention in all fairness that, given the developments, we have started a dialogue with our customers, which was announced yesterday or the day before yesterday, mechanisms to neutralize the depreciation or appreciation impact in the payment period. Where that will end up remains to be seen, but we can see both some of our customers are introducing that and some suppliers to try and mitigate or protect ourselves from the open position from invoice until payment. Again, we are in the boat together, customers and us, and we want to make sure that the ultimate manufacturer or order giver is not having a windfall profit on account of us or our customers. It is a difficult and tough situation to work through, but, nonetheless, we have embarked on that road. Okay, thank you. The last question regarding the channel. It seems like there were some extraordinary costs, ferry maintenance, et cetera. It looks to me like you are roughly DKK 50 million below on EBITDA compared to where you should have been given what revenue you recognized. Is that a fair estimate? Did you say one five? No, five zero. On channel? Yeah. Hello? Maybe you should, there is the Newhaven ship route is also part of channel now. I do not know if that can impact the margin you are looking at. Yeah. I think the maintenance, the ship cost we are talking about is more in the DKK 10 million-DKK 15 million range. Yeah. Okay. Pricing have been relatively stable on the channel. Maybe slightly down on the freight, but then up on the passengers. So there should not be a deficit there. Okay. Understood. Thank you. Thank you. Our next question comes from the line of Jan-Erik Schmitt from Lloyds AD. Please go ahead. Your line is now open. Hi. Yeah, thanks for taking the time. Michael. Just a quick question regarding the channel. You said you won market share there. How did you manage to do that? You can say that it is a recovery from 2017 where we lost some market share, and it has been accomplished with a strong effort by our team on the channel, but also, some lack of capacity with our ferry competitor and some operational disruptions with the tunnel. But we believe that we have come back to a level that is sustainable going forward. Okay, because you said the pricing is stable. There is no kind of like the pricing war going on, which means declining prices. No. Okay. It is a very tough and competitive market, but it is not irrational pricing as we have seen in the past. Right. Maybe one last question about Turkey. Do you think the margin profile is going to change due to the imbalance between imports and exports, or is that not going to influence at all? I think it will be impacted for a while the situation will be normalized. I think we have to, and we have factored that in our guidance here to a certain extent. Okay, because you said that you do not think, even though it might normalize the currencies, that you do not think the imports are going to come back to the same level as they used to be. We do not think it will be a three, four-week quick fix and then they are back. There are some structural issues in the Turkish economy. This whole situation, political dispute, et cetera, has triggered that. So instead of getting it in 18 months or 12 months, we are now getting it now, and there will be some adaptations taking place in the Turkish economy, improvement of the balance of the deficit on the trading current accounts, et cetera. The economy will work through those issues, and then thereafter we will see an improvement, may even be an export-led recovery, given the high productivity and the integrated trading Turkey has with the EU and the very then favorable, from a buyer's perspective, Turkish lira rate. But we will see some months, we are sure, where this will have a negative impact. At least that is our starting assumption. All right. Okay. Thank you very much. Thank you. Our next question comes from the line of from Load Loading. Please go ahead. Your line is now open. Yes. Good morning, gentlemen. A first question on Brexit. Just to get your views on this European Commission plan to bypass U.K. and French ports for Irish trade. Most Irish trade, as you know, at the moment, goes via the Calais. Is that going to impact you? If that were to happen, since we are operating there, you can say yes, potentially it could impact us, but we have routes on the North Sea where we could pick it up. Or if it really materialized, we would have to, you can say, redeploy some of our terminals. We are operating also in Ireland, both on the logistics side and on our smaller container vessel side. So we would adapt to that situation. But I think right now everybody is in planning mode for both a hard Brexit and a soft Brexit. So there are lots of plans floating around. Our main scenario is that we will have much more discussion and big headlines, and it will be dramatic, but at the end, we expect people will come to their senses and a conclusion, a result will be achieved. But in case it's not, then we have our plans for how we are going to react, and we are already preparing now. Could you give a bit of color on that, on those plans or? Well, for obvious reasons, we will not go into detail, but it's being able to handle trailers standing for a longer period in the terminals. It's on the system side. It's in a number of different areas, partners we are working together with. It's on the staffing side. So, we are ready if this unfortunate hard Brexit situation were to occur. Many thanks. Thank you. Thank you. As there are no further questions registered at this time, I hand back to our speakers for any closing comments. Thank you, everybody, for joining. Thank you for the good questions, shedding some light over the situation. We look forward to talking to you again when we come to Q3. Thanks a lot, and have a great day.