Afternoon, everyone. This is Mazen Al-Sudairi from Al Rajhi Capital. Al Rajhi Capital is proud to host Saudi Aramco Base Oil Company, Luberef, Q2 2023 earnings call. Welcome all to the call. Before we dive into the presentation, I would like to draw your attention to the cautionary statement during today's presentation. It might make forward-looking statement that refer to estimates, plan, and expectations. Actual result outcome might differ materially due to the factors stated in this slide. For more detail, please do refer to regulatory link and website. With that out of the way, I will hand over the call to Mr. Mohammed, the CFO.
Thank you, Mazen. Good afternoon. I'm delighted to welcome all of you to our first half of 2023 earnings call. The past six months have been a period of great success for Luberef. Our results not only highlight the exceptional investment opportunity we offer, but also showcase our ongoing efforts to create additional value for our shareholders. We are excited to share our outstanding achievements with you. We deliver impressive financial results characterized by strong net income growth, the second highest in our company history, and exceptional cash generation. In addition to our financial success, we are excited to announce the progress we have made in accelerating our growth. We have signed the EPC contract for Growth Two project, which remains on track for its anticipated startup in 2025. Safety and environment performance continue to be fundamental priority for us.
We have successfully achieved 34 million man-hours without LTI. This reflects our solid commitment to ensuring the well-being of our employees and stakeholders. Also, our dedication to safety has been acknowledged through the prestigious Saudi Aramco President's Affiliates Excellence Award for Safety. We have also taken significant step towards environmental sustainability by securing 20,000 tons of carbon credit in one of the largest carbon credit auctions. Driving operational excellence and transformation is essential part of our strategy. We are happy to announce the successful and safe completion of Jeddah turnaround, which has allowed us to enhance our operational efficiency and reliability. Furthermore, we have secured additional feedstock agreements, including 2,000 barrel per day of fraction gas oil and 5,000 barrel per day of reduced crude oil, which will further support our production capability.
Additionally, we have implemented cost-saving measures for Jeddah utilities, ensuring financial optimization across our operation. Finally, we are committed to maximize shareholder value. To achieve this, we have developed a mechanism for performance-linked dividends. This approach ensures that our shareholders directly benefit from our success and provide additional transparency. Our business environment was influenced by various factors, including the European Union embargo on Russian oil products. However, as the implementation date abroad, products found outlets and the price started to normalize. The normalization was partially held back by economic recoveries in India and China. Also, crack margins were supported by round of maintenance activities, while concern of global economic recession affected market sentiment. We continued to leverage our advantage position.
We have secured our advantage feedstock at an average cost of approximately SAR 1,400 per ton, combined with a premium price realization of approximately SAR 3,800 per metric ton, resulting in an impressive crack margin of approximately SAR 2,400 per metric ton. This translate to over $85 per barrel. Base oil crack remain above our 10-year historical average of around SAR 1,900 per metric ton. Let's discuss some of the key figures for our H1 performance. Our base oil sales reached 607,000 metric ton, lower than the previous year sales. This decrease in base oil sales can be attributed to the scheduled turnaround activity in Jeddah and strong sales from inventory that took place in the last year.
We achieved an outstanding mechanical availability rate of 99.7%, highlighting our commitment to operational reliability. Our Total Recordable Incident Rate has remained at exceptional rate over the last 4 years, emphasizing our dedication to employee safety and secure work environment. Financially, we have shown strong leadership with a net income of around SAR 900 million, representing a significant increase compared to the previous year. Our earning per share also experienced substantial growth, reaching SAR 5.35 in the first half of this year. Our revenue remains stable at around SAR 1.1 billion, demonstrating our consistent ability to generate robust earnings. In the first half of 2023, our free cash flow reached around SAR 1.1 billion, a significant increase from previous year. We remain committed to maximize shareholder returns.
Our dividend for the first half of this year will be SAR 840 million, which equates to approximately 77% of our free cash flow, and exceeding our guidance by approximately 50%. Additionally, our return on average capital employed showed remarkable growth, reaching 42% in the first half of 2023, compared to 30% in the previous year. This reflects our efficiency in utilizing capital and generating attractive returns for shareholders. Our strong income growth is attributed to two factors: high crack margins, which amount to a gain of around SAR 250 million, and a gain of around SAR 130 million from lower tax, which has been partially offset by a reduction in volume.
As a result, we had a healthy cash flow from operations, and with our low sustaining CapEx, we were able to generate significant free cash flow, which result in build of cash even after distributing our second half 2022 dividend. Luberef has always been a unique cash generation company. We sell high value products and have a low sustaining CapEx. As such, we have announced an update to our dividend policy to target payout of 60%-80% of our free cash flow. We believe this is a sustainable policy to follow, given our robust balance sheet.
Our high level scenarios for Luberef free cash flow at various crack margins, based on 1.3 million metric ton of production capacity, show that total dividend payout could be up to SAR 10 per share if H1 base oil crack are sustained for the rest of 2023. At the other end of the range, if we assume a crack would drop below the historical average of around SAR 1,900 per ton, we will still be capable of paying up to SAR 7 per share. We have stayed consistent with our original guidance, making no adjustments other than the introduction of performance-linked dividends. I would like to emphasize that no change to the minimum guidance of the $300 million dividend for 2023, that was communicated previously.
To summarize, we successfully achieved another round of strong financial results, placed strong emphasis in operational excellence, accelerate growth, and maintained our commitment to retain cash to our shareholders. Our consistent approach is obvious in both our actions and the positive outcomes we have achieved. Thank you very much.
Thank you, Mohammed. Now we can start the Q&A. Please, we're happy to receive inquiries, but that is limited to 2 question. Please raise your hand and start, who want to ask, you can raise his hand. Okay, now we can start with Ricardo. You are unmuted. You can start, Ricardo. Please unmute yourself. Yeah.
Yeah. Hello, thanks for, for taking my questions. Two questions on my side. The first one, if we look at the, the base oil crack margins for the second half of this year for 2024, how do you see this normalization taking place? Then the second question is related to the domestic market. If you could provide us some color on how you're seeing the demand in the domestic market, and how is that translating into the premium you're able to charge? Thank you.
Okay. Thank you very much, Ricardo. Regarding your first question about the crack margin, we saw in the first quarter, this year, around $680 as a crack margin. For the second quarter, it went little bit down to $583. For H1 overall, it's $630. The latest forecast, we do not really provide forecasts as Luberef, the latest forecast that we received from marketing consultant shows that the range that we are expecting is $600-$570 for the second half of the year. Now, this is include Luberef premium. Now, this is what we are seeing so far.
Also, one very important development that we have seen recently, the increase in diesel price. In June, for example, the diesel prices in the Gulf region was around $550 per metric ton. Now, we are looking at around $770. Significant increase in the diesel. Typically, there will be also increase in base oil to follow. This may take some time. This week, for example, when we look at the pricing report, there was no decrease or increase in the base oil prices for Group I in Europe or Group II in the Asian market. Also, if you look at the relationship between gas oil and base oil, there are no incentive for integrated refinery today to produce base oil. The incentive is to produce gas oil.
We're optimistic. I think the increase in gas oil will help to improve the prices. Now, there are some pressure that we also see from the prices of the feed. Price of the feed was around $400 in the first half of the year. Now, we're seeing around $480 for the high sulfur fuel oil. The second part, I think your question, Riccardo, related to the premium. We're not changing really the guidance of premium. I would say it's range from $100-$200. I think we realized in the first half, slightly higher than the $200, supported by multiple factors.
For the domestic market demand, it's in line with the guidance we provided, 30% of our sales in the local markets. It's slightly below, to be specific, around 28%.
That's it. Thank you very much.
Thank you, Riccardo. Okay, now we can go to, Oliver. Oliver, please unmute yourself.
Hi. Thank you. Can you hear me?
Yes, clear.
Sorry, line cut out. Hi, thank you for taking the question and, and, the presentation, too, if I can. The first one, just picking up on, on demand. There's obviously a lot of debate now in the market around, you know, economic forecasts, industrial demand, globally. Obviously, you see that, both with your product and, and, you know, indirectly through what's happening with diesel, margins. You know, do you have a view on, on sort of how demand is, is, is shaping up, into the second half of the year, and, and what that might do to demand, you know, sort of both to your product and, and, and refining products more generally to diesel? The second question would then be just flipping to the supply side.
I, I know from previous market data, you know, the, the outlook for base oil capacity in terms of additions is not looking too substantial, which, which is obviously a positive for margins. Are there any sort of updates there, you know, given where the margins are, are you, are you seeing any, you know, players looking to add base oil capacity, you know, in the near term? Thanks.
Thank you very much, Oliver, for your question. Regarding demand, we see very strong and healthy demand for our product. In fact, our issue is to produce more, not to sell our product. If you see, for example, our sales dropped in, in the first half of the year. This is a result of basically selling more last year from inventory. Demand is there. I think it's very strong. We have a very strong position in the region. We are maybe the sole supplier of Group II, reliable supplier with a quality product in the region. I think the demand is there. It's healthy, strong. This is what I've seen. This is what is communicated from the marketing team.
Gas oil, as I mentioned, its prices went up recently. This should support the base oil prices. What will happen, the high diesel prices will incentivize integrated producer to produce more diesel and curtail base oil supply. This may take some time. Regarding supply, we are not aware of any new announcements of additional supply. Also I mentioned in the business environment slide about the maintenance activity. In the first half of this year, there was around outages of more than 900,000 ton of capacity, nameplate capacity, in the first half of the year, versus 500,000 the year before. This is one of the factor that supported the prices. Going forward, we may see some of this capacity come on stream.
So this, this may put some pressure, but we think gas oil prices will support the prices. As far as I'm concerned, I think we are well positioned. Demand is healthy. I think there are a lot of factors that will support supply will, will actually can fill supply like gas oil prices. Thank you, Oliver. Do you have any further inquiry, Oliver?
No, thank you. That's very clear. Appreciate the answer.
Thank you. Okay, please, who want to ask, he could raise his hand. Okay, that, Hilda , you are. Please unmute yourself.
Yes. Hi, thank you. This is Hilda Shiam from HSBC. I, I have a question about the supply of feedstock. I have seen that over the past few months, there have been some supply of Russian HSFO to Saudi Arabia, Yanbu and Jeddah ports. Can you confirm whether you're receiving that, that, that feedstock, and whether it comes with a terrible price on it? Thank you.
we, we do not receive, high sulfur fuel oil from Russia or any other sources. Our feed is coming from, Yanbu Refinery, Saudi Aramco.
That's very clear. Thank you very much.
Thanks a lot. Okay, here is Abdallah. Abdallah, you're... please unmute yourself, Abdallah.
Asalam alaikum. Can you hear me?
Yeah, I can.
This is Abdallah Al-H akim from Hassana Investment Company. First of all, I would like to congratulate you on this very strong numbers. I just have a couple of questions. One is regarding the new feedstock allocation. In term of utilization rate, we've seen base oil utilization rates around 90. Would that take you up to the 100? That's my first question. The second question is regarding the byproducts. How much, how much margins have you been making out of these products in the first half of the year?
I will answer the second question regarding byproducts. I think, as I mentioned, no significant really margin generated from byproduct overall. Diesel really helped, the crack was around $325 last year in the first half. This year is lower, at around $295. This is diesel in general, but other byproducts, we're not really making significant amount of money. It's either we break even in the byproducts, like high sulfur fuel oil or asphalt. We make slight, small amount of money in naphtha, and today, naphtha price is not really high, and we do not really produce high volume of naphtha, diesel. As I mentioned, the crack is this first six months is around $995 versus $325 last year.
Regarding utilization, I will ask Ahmed Al-Jiffry to talk about utilization, please.
Asalam alaikum. In terms of utilization, overall, if you normalize for the turnaround, the asset is still being utilized at the 90% ballpark. With the new allocation of 5 MBPD, since we've been ramping up the production, it took quite some time to make sure all of the safety aspects are in line. We anticipate to be pushing above the 90% threshold. The asset has been in line with last year's utilization, if you normalize for the utility turnaround, if you take it out of the calculation. I hope that covers the question.
Now, now, Abdilliah, if you, if you, you know, we, if you look at the calculated utilization based on the in power, we are really in good percentage. If you look at some of the downstream units, we are doing a lot of initiatives, part of our synergy, to fill those units. For example, we're talking to one of Aramco joint venture, to import high VGO or high heavy VGO, and and really process it in some of our downstream units. Also, we're looking at VGO, which is unconverted oil from other places. We are trying to fill all of, sweating basically our existing assets. This is our strategy. Those kind of initiative, basically low in CapEx, quick to execute, not really complex, and generate a lot of value.
For example, the VGO importation from Riyadh, we started with 1 MBPD. The agreement is up to 2 MBPD. In the last 2 months, actually, the prices was close to diesel, we managed to make around $2.6 million or SAR 10 million. This kind of initiative, we like this kind of initiative, 'cause it's, as I mentioned, easy to execute, not really complex, doesn't require a lot of CapEx. We're, we're actually pursuing. The 5 MBPD is, is one thing that we, will take us to 50. We're looking at after growth, we will reach 65, inshallah, in 2025. We're looking at high, high, heavy VGO actually from SAMREF, UCO from Yanbu.
All of this together actually may take Yanbu, today is around 1 million or so, up to 1.5-1.6, with a CapEx of around $225 million, $250 million, Growth Two and $25 million-$50 million for this miscellaneous small projects. Again, some of those not really yet anchor, and we don't have agreement to, to start, but we are in the planning phase for some of them.
The reason is, the reason I'm asking this question, I just wanted to gauge how much incremental benefit would come out of this, new feedstock allocation.
Do you mean, you, you wanna talk about the financial impact?
I was thinking of how much volume impact would that have on your, on your operation. That's why I'm asking, how much would that push the utilization?
so for example, the five-
How much volume you're getting out of these new allocations?
for example, the 5 MBD of RCO, reduced crude, will give us around 80,000-100,000 tons of base oil, annually. This is example, 5, 5, this is the 5.
Sorry, your, your voice was cutting off. How much, what was the volume?
80-100,000 tons of base oil annually.
Okay. Thank you. Thank you very much.
Okay. Now, Okay, now, Idar, please, unmute yourself. You can start.
Yes. Thank you very much. One more question for me, please. I've noticed that the bright stock premium has reduced. I mean, it obviously was abnormally high over the past few quarters, and it's kind of normalizing. Is there anything which explains that reduction in premium? Because I thought that bright stock was that expensive because there was lack of capacity to produce it. Now the premium has declined. Is this the... You think this is happening because of weaker demand, or there is something else, maybe supply has increased? Is, is my observation correct, by the way, because, you know, I may be looking at the wrong data completely.
If you look at the first half of 2022, I think we are extracting higher premium this year compared to last year. This is first, first of all, we do see the bright premium currently healthy and actually in the higher range or exceeding the guidance that we provide, which is $100-$200. We are able to extract this premium. We always call it secured premium. It really has specific value, because today, if you look at the indexes around us, look at Emirates Index, for example. Emirates Index is not the right index to use for benchmark, Luberef products, because Emirates market is flooded with the Russian, Iranian-based oil, low quality.
Most of the IOCs, independent, high quality, independent blender, they don't really buy. They buy Luberef. That's why it's better to use the Asian benchmark and then add freight costs, import duty, reliability elements, quality. It is more of a secured premium, and it's, it's really strong in the first half this, this year, and it's higher than the first half of, first half, 2022.
Understood. Thank you very much.
Thank you. Thank you, Idar. Please, who would like to ask, he could raise his hand.
Maybe, Mazen, if you, if, if you allow me just to put some emphasis and, and very simply introduce the policy. We had a lot of really engagement with our investor, and we really obtained very good feedback regarding dividend policy. We gather this feedback, we conducted a thorough analysis internally, and we see what is really suitable dividend policy, given the company profile, strong cash flow generation, the low sustaining CapEx that we have. We thought it's maybe it's time to introduce something to the market. It's give really visibility and transparency to our shareholder in the long term, at least.
Today, we provide the SAR 300 as a minimum dividend for the first year, which we do believe sustainable through the cycle, and the company can deliver even more in good time. We thought it may be good to introduce performance-linked dividends. And that's, that's what, what came out with the announcement, and there. Also we actually, the board was really keen, and the management of the company, you know, to go with the high range. We actually deliver 77% of the cash flow. The reason we want to be in line with the historical dividend level that we deliver, which is five year, 50% above the guidance. I just want to reiterate the importance.
It's, it's very important element of our key things in Luberef, because we see it's very critical to maximize shareholder return, and this is clear in the action that we're doing in term of either updating dividend policy and providing the guidance. Also, one thing that I would like to add, Mazen, today, the IR team is really happy to discuss and welcome feedback from investor and myself. Also, we start to publish the prices of base oil in our website. This is based on lot of requests from investor.
Many thanks, Mohammed, for this clarification. Please, who want to ask, he could raise his hand. Fahad, please unmute yourself.
As-salamu alaykum. This is Fahad from Samba Capital. Congratulations on the strong results. I just have 1 question, since you touched on the prices that, that's being published on the website. I just want to clarify, these prices are excluding the premium, right?
Yes, it's exclude the premium. It's provided actually by Argus. It's kind of weighted average for our Group I mix and Group II, in the Asian market. Exclude the premium. You're right.
Yes. Okay. Clear. Thank you.
Hi, Fahad. Any other, any further question? Thank you all for your actually participation and participation. Thank you, Luberef. Thank you, Mr. Mohammed, and thank you, Ahmed, for this opportunity.
Thank you to you, Mazen, and the rest of the audience.