Earnings Call: Q1 2023

Apr 24, 2023

Good afternoon. Welcome to join the analyst call for Q1 2023. I will report to you the participant's name. You will be provided with presentation as well as the video afterwards. Without the written form consent of ADAMA, you are not allowed to spread or distribute these information contained in the presentation. Please read through the legal notice, and you are kindly reminded that the investment is always risky. Please be cautious when you conduct such activity. We also have Q&A session as always. Now we will give the floor to our host, Ms. Zhujun Wang. Good afternoon, my dear investors, friends and analysts. I am the security representative of ADAMA Ltd., Zhujun Wang. We have just disclosed the Q1 statements of 2023. We have invited our CEO and President, Mr. Ignacio Dominguez, and CFO, Efrat Nagar, as well as our global investor director, Rivka Neufeld, to be here with us to share with you all the key highlights of financial statements for the quarter. We have Q&A session. All the participants through the phone can download all the relevant information and materials on our website. Now I will give the floor to our CEO, Mr. Ignacio Dominguez. Please. Thank you. Good afternoon to you all for joining us in this presentation of the results of the company for the first quarter of 2023. I, it's a special moment for me on the personal side. As you all know, I'm stepping down from this position, and I'm handing the baton to Mr. Steve Hawkins, which is our Vice President for the Americas, that for sure will take the company into new heights. This is a good opportunity for me to have a, an opportunity to have a dialogue with you expressing what I know of the situation in the markets and how we are performing in the company. I'm assuming that you have all read the disclaimer about the confidentiality of the information and about the how you need to move. Probably we can pass the presentation to the place where we can start talking specifically about the business. Could we please move the presentation to the general performance overview. If you remember in our previous call, I was talking to you about a situation in the market that had effects of the business that did happen during the second and the third quarter of the year 2022. At that time, the demand from the farm was extremely robust, and that generated a lot of nervousness and tensions in the market, specifically on the distribution channel, where they had some doubts whether they would be able to provide products at the rhythm that it was demanded. As a consequence of that, everybody built inventories in order to secure that they would be in the position to be a sustainable supplier for their customers. This high level of inventories was supposed to be depleted during the fourth quarter. The reality is that it was not depleted in its entirety during the fourth quarter, but it also remained at high levels during the first quarter of 2023. You put that fact together with the return to normal activities in the manufacturing camp in China after the release of the COVID zero policy, and then you have that the high level of inventories together with a normal activity on the manufacturing side, weighed or generated a situation where there was a surplus of product into the channel. As a consequence of that, there was a reduced reduction of the China active ingredient and raw material prices. Farmers all over the world, they understood that by holding their procurement a little bit, they would see prices reducing month after month, week after week. That was generating an incredible profit opportunity for them. As a consequence of those two situations combined, a lot of farmers all over the world, they stayed on a situation of wait and see when was the time that they could maximize their profit by having access to material at a lower cost possible. The result, of course, for of that paralysis or that slowdown on the demand coming from the farm, of course, had an impact on the sales path for the entire industry, for distribution, but also for manufacturers. That was also the situation for ADAMA. In addition, the new production and the new volumes coming into availability, they were not finding its way through the market, which was exacerbating even more the price reduction on the active ingredients, despite the fact that the demand was not helping to deplete inventories. Consequence, market selling prices were softening, mainly in the origin of the active ingredient, but also in the prices of the operating players. As a consequence of that, the performance of the company was not as we were expecting. If you see here, you know, the company was showing a decrease on our turnover of 11%, which mostly came from volumes. It is totally related with demand. In fact, despite the fact that we were able to work in our mix and that we increased our prices versus a year ago by 1%, the reality is that the demand on volumes was lower. It's an interesting thing that you need to bear in mind. All the players in the market are trying to hold their prices just because everybody's sitting on inventory that is coming from mid last year at a much higher cost than what it is existing right now. Also, we were affected by the decline in exchange rate, and we were just facing this wait and see approach that I was just describing. The consequence of that lower sales are reflected on everything of our P&L. The gross margin was 18% below a year ago. This is driven by the decline on sales, but also the impact of exchange rate and the fact that we are operating trying to deplete a high-cost inventory. The reason why we're trying to deplete as much as possible, even at the expense of our margins, is 'cause later on we will be able to capture the new cost of new material that we will be procuring later on during this year and will compensate for sure the margins that we're having. Okay? It was reflected on the EBITDA and the company, as always, is extremely rigorous on the way that we are managing our OpEx. Despite that, we were not able to compensate. That is the reason why you see this decrease on our EBITDA, which is 18% below last year. Also the issue that we had this high level of inventories had many other effects, especially on our financing of activities and getting access to the ways of financing, also this high cost inventory, that it was way above our expectation. Certainly those financial expenses have an impact on the net income that you see here for the first quarter. Okay? Higher interest, more needs to finance was behind the reason of the decline on our net income. Now, this situation of the wait and see that I am describing to you might think that it is coming from one place or one specific geography. The reality is that contrary to some of the trends that we see usually is that in global basis, many of the bad news get usually compensated. For example, if we find high inventories in the channel in Europe, not necessarily that is the situation in Latin America. If there are weather conditions affecting our business in North America, that not necessarily is the case in Australia. Well, in this first quarter, the reality through all the geographies is it's been very similar. It is true that it has been more exacerbated in some of the regions, mainly in the areas of the Americas and Asia Pacific. In North America, we have a disappointed performance and the reason is basically because both our businesses, the ag business and our consumer and professional products, were affected by a very low demand. In the ag business, as I was explaining, a lot of our customers, very big customers, the ones that we are operating in North America, they are sitting on high level of inventories that they haven't been able to deplete. Of course, they were not interested on procuring new material until they were finding themselves at a lower level of inventories. That has been reflected in the lack of demand that we got from those very big customers. In the consumer and professional, we were mainly affected by the very low demand that came from our domestic business, specifically in Bonide. In a high inflation environment, the domestic business is certainly affected and the home and garden business are some of the things that immediately are suffering of this low demand. Same happens in Asia. In China, you do know what is the situation. Despite the fact that the manufacturing activity is continuing as usual, the reality is that that product is not finding its way into the market. There is a push for this material to find its way that de facto is not finding a good consumption. The result is a massive drop of prices which affected us as well, especially on the industrial and non-ag business. Last year it was a very positive situation, probably the contrary of what we're living today, the comparison is what you see here on the graph. Same happens in the other geographies. However, the comparison versus a year ago is not that negative. In Latin America, mainly in Brazil, there is a slight reduction versus a year ago. We are watching exactly the same behavior of farmers waiting not only on crop protection products, they're also waiting on other inputs that are critical for their farms, like fertilizers and other inputs, where they see a massive reduction of prices and they're trying to procure only in the very last minute. Even though our turnover, it is not showing a big deviation versus a year ago, the reality is that our orders in hand, which are showing what is the campaign to come, are lower than where we were a year ago. Nevertheless, we believe that we are in good shape with our new pipeline products coming into the market this year for the fungicide campaign in the coming quarters. In Europe, Middle East, and Africa, there is a flat situation in terms of USD. It is better in local currencies, but of course it has an effect, the exchange rate here. The comparison versus a year ago, it is something that looks like flat. The reality is that this is a combination of several things that are going in different directions. We do have a very depressed situation in South Europe, mainly because of very adverse climatic conditions. You know, that we see right now we're experiencing in South Europe temperatures that are more like the temperatures of summer than in the spring. Places where temperatures way above the 30 degrees for April is something that is really unheard of. Very positive situation in Germany and the U.K. and the north of France. There are some effects right now because of the unrestricted grain coming from Ukraine into some of the one simple European countries like Poland, like Hungary, like Romania, which is having a bit of an effect on the demand and a bit of confusion about prices for farmers. We do have a very mixed situation in Europe. We believe that once the campaign recuperates its normal way, everything will be going back to normal, and then we will have a much better position in order to capture better margins with new procurement once that we get into the rest of the year. I pause here. I think that is interesting for me, for you to hear a bit more the details on the finance arena. I'll ask Efrat to share with you a little bit more of those details. I'll come back. Thank you. later for the question and answers. Efrat, please. Thank you, Ignacio. Let's go to the next slide. Thank you. Sales mix. During 2022, the high crop commodities prices, together with massive concern around logistics and availability challenges, increased demand significantly. In 2022, it was a matter of keeping up with the high demand in the market. The company, like other players in our industry, decided to increase its level of inventory in order to address this high demand. However, in the fourth quarter of 2022, with the slowdown in the global economy, supply and logistics challenges eased. We experienced a decrease in the market demand, which resulted by high inventory volume and value. This brought us to a situation of wait and see in the first quarter, supported by high inventory all through the channel together with the China AI and raw materials pricing declines. This means we reduced demand, which pushed prices down. However, prices are still higher by 1% versus last year. To the next slide, please. The gross profit, as you can see, reduced from $440 million in 2022 to $340 million in 2023. This is due to the decline in sales, as I have just explained, and also by high-cost products that were sold during this quarter. The high demand during 2022 has pushed prices up through all the channels, which impacted the cost of our inventory. The company began reducing its high-cost inventory and replenishing with new and relatively low-cost inventories. EBITDA reduced from $201 million in 2022 to $165 million in 2023. The negative impact of demand and product costs that we have mentioned before has been moderately offset by lower operating expense. In the first quarter of 2022, the company recorded a doubtful debt provision for trade receivables increase. However, also without this provision, our operating expenses are lower due to a lower transportation and logistics cost and also by OpEx, as explained. The impact of the lower sales pace due to the wait and see approach by all players in the market resulted in high level of inventory held by the company, which negatively impacted our working capital and our cash flow. We are managing our inventory levels by controlling our procurements, which is well reflected in the lower payables end of the first quarter. In addition, the company demonstrated lower receivables, reflecting good collection. The company is using financial facilities as utilization, factoring, and reverse factoring tools in order to support cash flow. With that, I will now turn the call over to Ignacio. Thank you. Thank you, Efrat. Thank you all for going through this presentation with us. Now I think it is the right timing for us to have a dialogue and to listen to your comments and concerns and questions, and we will try to answer them as better as we can. Well. Thank you, Ignacio and Efrat for your presentations. Next, we will be telling everyone how to ask the questions. If you would like to ask a question for phone participants, please press asterisk one on your telephone keypad. For web participants, please type your message in the text chat frame or click raise hand button to ask a question live. We have already seen some questions coming in. I will be first reading the first question. Thank you. I have three questions. First, in your presentation, you mentioned high inventory level and also the wait and see attitude. These have caused great challenges to our Q one sales. If we look into the second quarter and the second half of the year, do you think we can have some improvements in the depleting of inventory? As for the second question, this is about price. In quarter one, China's AI prices and also some of the formulation prices have dropped. My question is about your forecast on price in the second half. Is it possible that we might see price increasing? As for the third question, this is for the Brazilian market. In your presentation, you also mentioned some of the order issues from Brazil. It is true, the year-on-year sales also slightly dropped. Will this lead to some possible sales slowdown in the Brazilian market? Thank you very much. Thank you. Very, very relevant questions, the three of them. Let me start with what is our forecast or our best reading of what will happen with the inventories. You're asking will these inventories be depleted by the second quarter, and what about the second half? What we do know now is that the rhythm of depleting these inventories is much lower than we were expecting. In fact, during the second quarter, the season, it is going to be shorter than what usually it is, and that is not because of the level of inventories. It's because of weather conditions that are not easing the depleting these inventories both in Europe and in North America, mainly the northern hemisphere, the big markets. We are envisioning a shorter campaign than usual, and that will not help depleting the inventories. We will see that only through the second half, and second quarter and third quarter, we will see that these inventories for the industry will be depleted. We are, and I connect with your second question. We are expecting that we will be in a position where we will have to replenish inventories and to go into new procurement as in a normal trend only during the second half. You're asking what will be the behavior of prices during the second half? What we see right now is that many of the manufacturers, they're starting to sell at prices that are not generating a lot of margin for these manufacturers. At least from a contribution point of view, it still makes sense for some of them continue producing and selling even the margin generation is flat or even sometimes negative. This is not sustainable on the long run. We are envisioning that all the manufacturers will have to stop this price reduction for sure by the end of second quarter at the latest. During the second half of the year, we will start to see a bit of an increase on the active ingredient prices as the demand is returning back to normal. We are anticipating that we will be in a good position of capturing new volumes at the lowest point on prices that will allow us to compensate some of the investments that we're doing on margin right now. Yes, answering your question, during the second half, probably we will start to see a slight ramp-up, not aggressive, but a slight ramp-up on the market. You say, what are our expectations for the second half, specifically in Brazil? We believe that the farmer economics at the end, they're very positive. All this speculation that we're watching right now is not because at farm level there is not enough profitability. That's not the case. Prices of commodities are way above their historical average, farmers will have to treat. We see that on the hectares that are planned, we don't see a reduction on the crops. Sooner or later, farmers, they will have to protect their crops. When that happens, we're in a great shape. We do have not only a lot of possibilities with our fungicide portfolio, with ARMERO, with BLINDADO. BLINDADO is gonna be the second year of sale for us. Last year we were in a bit of a moderate getting into the market approach. This year we're going to exploit the maximum. Not only that, there are new products, you know, like CLINCHER, that they are coming into our portfolio. Things with new combinations that are unique for ADAMA. We are in great shape in order to address the soybean fungicide campaign for rust in Brazil. We're very confident that our possibilities in there will certainly take the company to drive very successfully. Thanks, Ignacio, for your explanation. Now let's welcome to the second analyst. The number is 1268. Please. Thanks for the opportunity. I have 2 questions. The first one is about the declining price of active ingredients. When we look at the middle level agro market, how fast the declining price of active ingredient will be transferred to this middle level ag market? Also I'm interested in the operation of the 2 production sites in China to have new plans for new active ingredients and to have longer strategic plan for the 2 sites. Okay. Very relevant questions. Think about the price declining of active ingredients. It connects with the previous question and my answer. We are envisioning these prices declining at least for the rest of the second quarter, but no, not beyond that. We are thinking that will remain flat or will slowly start to ramp up. You are asking what will be the speed of transferring those price reductions into the market? It will depend not really on the price movement, but on how fast the inventories that are existing today at the channel and the industry will be depleted. We are confident that we will be in a good position at by the end of second quarter and the beginning of third quarter to start to capture those new prices in our inventory. Will these prices be translated into the farmer? I don't think that the speed will be at the same time. Just bear in mind that everybody in the market, manufacturers, the international companies and also the distributors, were holding a high, expensive inventory. Nobody has an interest on dropping prices at market level in order to generate losses. The reality, and the fact was just sharing with you, the reality is that we've increased our prices versus a year ago during this first quarter by 1%. That reflects a trend that the market is holding prices in order to deplete these high cost inventories. On top of that, the farmers, they can pay it because their economy is good and they are willing to accept high prices. Yes, the active ingredient will be translated into new procurement will certainly be a benefit that we in ADAMA were saying that we can capture, not necessarily will be reflected in a massive way at farmer level. The second question is about our plans for our sites in China. We do have three sites in China, but probably you're referring to Sanonda and Jingzhou. I will have to include as well Huifeng, where we do have a lot of plans for increasing our capabilities in the three plants. You do know that we have our portfolio strategy is that we call Core Leap, where we are going to be introducing over the next five years, we will be introducing 14 new active ingredients that require not only the active ingredients, but also a lot of activities on the raw material side, et cetera, et cetera. There are very extensive plans for us to utilize our state-of-the-art facilities that we have in China in order to have the capabilities of these new introductions, have enough workload in order to feed our sites in China. It is very remarkable to say that we are today at the levels that we were expecting on production, for example, in Sanonda, we are already at the levels that we were expecting on the production of DiPel and Acephate, and that is certainly a great achievement for the company under the most high standards of HSE. For us, we believe that in the future, these sites will provide us an opportunity to have a competitive advantage. Thank you. I am now seeing more questions coming in. For our third question, for your European business and African business, I have seen increase in terms of performance. What are the reasons for that? In terms of the inventory pressure in Germany and U.K., is the pressure relatively smaller? The second question is that, starting from the second quarter, could we still see increase in terms of sales revenue in those regions? Thank you. Okay. Your question relates very much to Europe. First, I have to say that when we're talking about Europe or EAME, Europe, Middle East and Africa, we're talking about a lot of geographies that not necessarily they are behaving in a consistent way. As I said before, it's a compendium of good places with average, with some of them that they're not performing according to our expectation. South Europe, meaning Spain, Italy, Greece, is not performing according to our expectation, mainly because of weather. Central Europe, they have some of their problems. You're asking us specifically about U.K., Germany. I would add also France. We see very positive development of the campaign. You say, are the levels of inventories lower? What it is happening is that the starting point was similar to the other places, but the campaign and the weather has helped them to move into a position that yesterday we see that in some of the Nordic countries of Europe, the level of inventories are lower than the relative term, compared with other geographies. It's a normal thing once that you're in campaign. Some of the markets, they go faster, some of the markets, they go slower. We do have certainly expectations that in these markets, we will be able to do better in terms of our turnover, compared with our expectations. We will have to compensate some other places where the situation is very depressed. As I said, in South Europe, for example, in Spain, there are two years in a row that they have dropped, and that is putting a lot of stress on crops and farmers in those specific territories, not because of the overall economics, it's just because of weather conditions. The situation in North America is similar to that. We had a very, very long winter, and now we're turning very quickly into spring, and the campaign is going very, at a very high speed, and that will end up in having a shorter campaign for treatments. Once again, we'll see some markets that will perform better than others. We are in the middle of the second quarter. We need to see at the end how these conflicting trends will end up. We will, we will see, you know, if at the end, we will be able to capture as much opportunities as we can. It's a challenging environment. We will only know where we end up by the end, by the end of the quarter. We are confident that in those places where we can push, certainly will come out better. There are many challenging circumstances all over the world that are not helping, not only ADAMA, but the entire business. Now, you're talking About the overall sales, I think that the most important thing for us this year is trying to deplete as soon as possible these inventories. It's not about sales. There are good years, average years. It's more about us being able to capture the new procurement costs that would allow us to improve the margins, and we believe that we're in good shape in order to do that. Okay. Thanks, Ignacio, for a very detailed response to this question. I've seen two questions in the list about the price increase. The question is about the 1% YOY increase. They have asked what are the reasons to support such a 1% increase? Well, I've explained it before. Nobody among the players has an interest on increasing prices. The inventories that we're talking that are above normal, they're all expensive. Everybody is trying to keep prices in a way to maintain the profitability. That is true for manufacturers, that is true for distributors, and that's even true for the farmers. The farmers, they see that they certainly would like to have lower prices, but not necessarily they see that all over the portfolio of products and services. By the way, this 1% that we're discussing here, it is an average of the entire portfolio, okay? There are some products that of course they are decreasing the prices at a higher level than what we are explaining. I know that all of you're familiar with glyphosate. There is no doubt. Glyphosate price, both on the manufacturing side and on the selling price, it's been reduced drastically versus where we were a year ago and just two or three quarters ago. Okay? There are some products that they are decreasing, but there are many other products that not necessarily are sold in terms of price. That is the reason why in terms of the average, we've been able to have a higher price than a year ago. I want to be totally honest, and I think that Efrat also mentioned that we are 1% above a year ago, but we are below the prices that we were achieving in the fourth quarter. Not dramatically, something that is between 2% and 3%, it's there is a certain decline on the selling prices compared with the fourth quarter of 2022. Still, these prices are way above the historical average, you know, 'cause the company has been able to above, you know, we've been able to increase prices by double-digit in a year. Also, you have to bear in mind that this decrease has a big influence of the non-ag business that we had in that mainly our we're performing in China. Just bear in mind that the everything that is about intermediates and technical active ingredients and all the industrial business of ADAMA was in a. It was a great contributor for price increases a year ago, and it's a contributor to decreasing those prices in the second half. Again, I insist, prices, farmers, they can pay high prices, and all the players, they do have an interest on holding those prices. The reduction that we're describing, it's on volumes mostly across all the geographies.