Jefferies 13th Annual Industrials Conference

Aug 9, 2017

Slides

Good morning. I think we should start. Thank you for coming this morning, ladies and gentlemen, and welcome to the Westlake Chemical presentation. You can see the first slide in the box. This is our second quarter twenty seventeen year to date results with sales EBITDA. And Westlake is a leading integrated international materials company focused in the olefins and the vinyls businesses. The four points in our mission statement is very important. We wish to pursue profitable growth, really bottom line growth. We're not focused on top line growth, and we want to create value for our shareholders. We are focusing business we understand, namely the olefins and the vinyls business. We do business globally where we can gain an edge. And most importantly, we act in a financially disciplined and optimistic manner. I mentioned we are focusing the two business, olefins and vinyls. By olefins, we mean ethylene manufacturing. We have three ethylene crackers, two in Lake Charles, Louisiana and one in Culver City, Kentucky. We are all ethane based. We'll discuss it more. Ethane crackers with capability to crack some propane. And also, we are in the downstream polyethylene business. As you may know, approximately 60% of all the ethylene in world goes to polyethylene. And our olefin business is polyethylene. We'll talk about our position in LDP, linear low. We also have a small starting plant in Lake Charles, which is the newest starting plant in The U. S, also the smallest. Vinyl business starts from ethylene, chlorine, all the way to PVC. VCM is a precursor of PVC. We make VCM PVC. But we also have a large position in the, what we call, building products or fabricated product business. We have on a pro form a basis, look at we probably will have close to $8,000,000,000 revenue on pro form a basis, and our building products business is over $1,000,000,000 in revenue. So it's a sizable player in that market. Our polyethylene business focused on packaging business, food packaging as well as other packaging, including some of you may see Amazon deliver a package to you and inside the box paper and the box and opened up, we have these plastic cushions bubbles, and those are also our products. So we're in the food packaging, but all kind of packaging business. And the vinyl business, the majority of the vinyl business goes to PVC and the majority of PVC goes to construction. So we are in the durable side of the economy. But caustic soda, which is every pound of chlorine you produce, you produce 1.1 pound of caustic. And caustic soda is a big product now for Westlake. We are the number three chlor alkali manufacturer in the world, number three in The U. S. As well. And caustic is a very widely used chemical from refining to wood pulp and paper and to general uses, including making soap. On August of thirty one, twenty sixteen, almost exactly a year ago, Westlake acquired Ekso Corporation. We are very excited on this acquisition, mainly because of the synergy that brings Westlake. As you some of you being long term investors, Westlake was primarily olefin centric company. And with the acquisition of Axo, we become a vinyl centric company. Approximately as a pro form a, again, approximately 70%, 75% of our revenue today comes from the vinyl sector of the business. And you see earlier that EBITDA usually three quarter goes from olefins. And I think the last quarter, second quarter of twenty seventeen, EBITDA in the Vinyl business exceeded the olefins business. The synergy not only comes from the similarity we have in the Vinyls business but also from the ethylene side. As I said, we are ethylene goes pound for pound of polyethylene and for PVC, zero five pound of PVC is ethylene, the other half of 0.6 pound is chlorine. So our olefin business crosses over into the vinyl side. And we have a JV today with Lotte Corporation of South Korea and ethylene plant being constructed. We have a 10% ownership right now. We have option to acquire up to 50% of this joint venture and the option expires three years after the plant startup. And this estimated plan will start up in the first half of twenty nineteen. So the option we can exercise all the way to 2022 on buying up to 50 of this joint venture. Today, Westlake is the second largest buyer of ethylene in The U. S. And so if ethylene price is weakens, it will benefit Westlake from able to purchase low cost ethylene. And by the way, European market price ethylene is double that of The U. S. And Asian market price ethylene is almost double The U. S. So U. S. Has the cheapest ethylene today. So we are very competitive in terms of competing with European Asian vinyls companies. We have a history of strong value creation and profitable growth. Now this chart shows capacities. The green bar shows capacity olefin business and the gold bar shows capacity of vinyls business. And we grew by both organic and inorganic means, inorganic is acquisition, organic is by building our own plants and debottlenecks. And with the Axial acquisition for the last thirty years, the compounded average annual growth rate is 17.5%. And this is not by design we want to grow at this rate. We just show that. It happened to be a history, this is what happened. But we focus really on the bottom line growth, and this is what's important to us. And I just mentioned, this shows the integration of our business. The green boxes shows olefins, ethylene, polyethylene and styrene. We have the joint venture in the dashed box. And the bottom shows our vinyls integration from chlorine, ethylene, caustic soda. And we have a kind of purple box that shows the chlorinated products. And the old legacy Westlake, who are balanced in chlorine and ethylene with all the expansions we had. And chlorine goes to the PVC. We don't sell chlorine to the merchant market. Whereas Axial, through the acquisition of PPG, PPG was one of the largest merchant sellers of chlorine and its derivative products, non vinyl, non PVC. And so we are a large player in that. And chlorine not only goes water treatment or into the TiO2 market or urethane market, also goes into chlorinated solvents and feedstock for refrigerants precursors and as well as water purifications and water treatments. On this slide, we just want to show that the feedstock for the olefin business, which is mainly NGLs from ethane, propane are supplied from the various shale regions of The U. S. And North America, whether it's from Permian, which is the hottest area today in Texas or from the Marcellus area Northeast Of The U. S. Or from the Bakken areas. And various pipelines has been constructed and under construction to bring the feedstock down to the Gulf Coast where the demands are. And the circle shows that two thirds of global ethylene feedstock are non ethane based. And on the middle circle, it shows the pie chart shows for Westlake capability, have about 25% to 30% capability to use non ethane based propane or butane. But right now, because ethane is the best feedstock in The U. S, we are 100% based on ethane. And the bottom pie chart shows in Europe, we are a buyer of ethylene, and ethylene Europe primarily is naphtha based. We have mentioned advantaged polyethylene position. On the pie chart on the left shows globally about £200,000,000,000 as of 2016. LDP only represents 22% of the global polyethylene capacity. There are three types of polyethylene high density, which is the green, the largest of the polyethylene and then your linear low, which is the gray area and dark blue is LDPE. And for Westlake, 58 of our capacity is LDPE, the rest is linear low density. Why we like that position? You can see the charts bar charts on the right that from 02/2016, fifteen years average in The U. S, LDP has a $0.77 a pound higher margin than linear low and $05 a pound higher margin than high density. And last five years, that has even moved up to $0.84 a pound and $06 a pound. So LDP, it's made typically under much higher pressure from 20000 to 40,000 psi. It's expensive to build these heavy steel plants, container pressure. And also with heavy steel walls, heat transfer is less efficient. So it's expensive to produce a pound of LDPE, and investment cost is cost expensive. So high density in your low taking over a lot of the low commodity, low priced markets of LDPE. So LDPE has finds way into specialty copolymer specialty applications. And as the economy grows, the demand still grows, very little capacity has been added in the LDPE, hence the margins improve in LDPE. In this slide, we just show the Westlake 50 odd percent of polyethylene LDPE, where you can see the other competitors. The LDPE is 20% or less. And the chart on the right shows that globally, the autoclave there's two types of technology to make LDPE, autoclave process and tubular. And the forecast by 2020, the bottom line shows by in 2020, only 33% of world's capacity is autoclaves, with Westlake's 80%. And the difference is autoclaves, again, makes more specialty among the LDP, it makes more specialty LDPE, whereas the tubular makes more the commodity grade of LDPE. In this slide, it shows the capacity increases around the world. This is not just The U. S. Again, the blue bar is LD gray, video low and high density is green. And you can see historically, very little capacity being added. But since 2016 and 2017 to 2021, there's more LDP capacity added because the demand for LDP is strong and the margin is good. But almost all this LDP capacity added is the tubular, the more commodity grades. And if you can see those two lines, one line is onetime GDP forecast for historical and forecast for the global GDP growth. And the purple line is 1.5 times GDP growth, and this is the forecast of OECD's forecast. So you can see that even with the new capacity added in LDPE between 2017, 2021, if GDP demand growth is more than one time GDP, again, LDP capacity is not sufficient to satisfy the demand. This chart shows the global footprint for Westlake, And the light blue stars is the Axial's position. They are in The U. S, also have two joint ventures, one in Taiwan and chlor alkali and the other one is India, a joint venture in PVC compound business. And the dark blue stars is the legacy Westlake position, both in The U. S. And our position in Europe is the middle of the business that we acquired about three years ago, and we're a leading largest global player in the specialty PVC business. And certainly, we have another PVC plant in Shanghai and China. We've been there for twenty years, and we are one of the high quality film PVC downstream film and PVC manufacturing in China. This chart shows the material flows of the Vinyl business that is discussed a bit earlier. You have caustic and chlorine and manufacturing chlor alkali manufacturing and chlorine along with ethylene goes to EDC, the first step and then DCM, second step and to make PVC. But for Westlake, also, the chlorine goes into chlorinated products we talked earlier as well as PVC and the building products that we produce. And what's interesting is the two pie charts on the right. The top pie chart shows over the last cycle, probably about ten years, that if you look at tons of pricing in The U. S. On market price basis, then the majority of the vinyls chain margin resides in the raw material side in ethylene and chlorine side. And the chlor alkali margin that included in the caustic value as well is 52% of the pie, 49% is ethylene, only 9% is making PVC, both from EDC to VC and the PVC. And the last five years, on the bottom pie chart shows that changed somewhat. Ethylene had higher market share of the pie of profits, 47% and chlor alkali is 43%. Again, the VCM PVC is only 9%. While this is the cycle average, but I think last year, even the PVC chain was, at best, neutral, maybe some even negative if you transfer price at market prices. So we are seeing the margin recovery with no new plans announced in the world for chlorine or for PVC that we see that demand is still growing on GDP basis for PVC, 1.5x. And the supply is limited, unlike the polyethylene business, where, as you know, a fair amount of 30% to 40% of U. S. Polyethylene capacity will added in the next five years, whereas in the vinyls, as far as we know, there's zero capacity announced. So it takes typically three, maybe four years to build new vinyls chlor alkali plant and PVC plant. So we have, for the next three, four years, a pretty good run rate in terms of margins going forward. And this is not just The U. S, it's global. And global demand is pretty big. And if there's no new capacity added, the global demand would also increase global margin, which is would affect The U. S. As well. This chart shows position that I mentioned earlier that our North America PC in North America is number two ranking capacity wise, and we're number three on a global basis. In chlor alkali, we are number three in North America. And along with our European and Asian capacity, we are number three also globally. I mentioned earlier, our FritoLift acquisition that we made three years ago. They are the world leader in specialty PVC manufacturer, and we have six plants in Europe and many Ph. D. Doctors. And specialty PVC does not focus solely on the construction. They are in the wall covering or vinyl flooring type, but it also goes into medical things such as blood bag and medical tubings, artificial leathers for car interiors, textile coatings for, for example, tupper links for trucks, the rules of the London Olympic Stadium. Some of you may have seen it, that rules where the lights come through is PVC coated fabric. And also in automotive coating, underbody rust proving, most of them are PVC based potash. So it's a very, very broad application, both consumer and not focused solely on the construction side. This slide just shows the global PVC demand. You can see that before the housing meltdown in The U. S, global PVC demand, the blue bars are going up in a nice fashion. And then 02/2008, it dipped. The dip mainly is because of The U. S. Housing meltdown. The housing meltdown, in fact, primarily in The U. S, I don't think, had much impact on other parts of the world. You can see since 2010, global demand has come back to the pre meltdown and continue to grow. The red line shows the export. So U. S, before 02/2008, U. S. Exports around 10% of its production because most of the rest is all internal demand. As you may recall that the all time high for residential units construction, both single family and multifamily, they reached 2,300,000 units, I think, thousand and six and 02/2007. It dropped 80%, dropped to 400,000 units, 02/2008. And today, we're talking about 1,100,000, 1,200,000 units. The fifty year average in The U. S, our residential construction is 1,500,000 units. So we are not back at the fifty year average yet. And if you grow by 100,000 units, it takes another three years to get 1.5. So meanwhile, The U. S. Vinyls capacity because of low cost ethylene and low cost power, we are able to compete global basis. So about 30% or more of The U. S. PVCs exported and the forecast by IHS is still staying that range. So The U. S. Become a big supplier to the global vinyls demand. And if residential construction does come back, we should see more consumption in The U. S. With that, I'd like to turn over to Steve to go through some of our financial information. Thank you very much, Albert. So let me just say that over the next few slides, we'll talk a lot about our financial disciplined approach to the business. You'll hear me talk a lot about the balance sheet. Certainly, the benchmarks that we look at as we move our business down the path, EBITDA margin, return on capital and return on assets. And of course, I want to also highlight the fact that we've gotten final clearance from the IRS for our Mass Limited Partnership and moving forward on that front. So a key element of our philosophy is prudent reinvestment of capital and the realization of an efficient return on that capital. In just a few minutes, I'll spend a bit more time on some of those metrics. But the chart that you see here shows that we prudently invested capital through the addition of new expansion of assets. And you can see here through the green bars I've highlighted are olefins expansions in ethylene. The yellow bars reflect investments in our vinyl segment and gives you just a sense of the commitment that we have to continue to grow this business, but always with a focus on bottom line value growth, whether it be through acquisitions, through debottlenecks or other opportunities to bring value to our shareholders. Moving on to the balance sheet, you can see the chart here shows debt to cap for the last ten years. You can see that Westlake has consistently been less leveraged than our peer group, yet during the same period we've continued to deploy a very significant amount of capital over $6,000,000,000 in our business and profitably grow the business. We didn't overextend ourselves as some did during that same time period and even now even after the acquisition you can still see that we still have below an average level of debt versus our peer set. The implications I think are really quite clear. We have the ability to fund our growth on a continued basis. We have the patience and the discipline to continue to invest where the risk reward trade off is there. The chart you see at the bottom shows that we've consistently maintained investment grade ratings and continue to be very focused to make sure that those remain in place to allow us to continue to grow the business as we see the opportunities arise. So earlier I mentioned some of the metrics that we use in our business and here I'm showing three of those, showing return on assets, return on capital employed and the EBITDA margin. You can see the left chart shows that we're putting those assets to work much more efficiently than our peer group and generating returns above our peer set. And some of those peers are not commodity peers as we. The middle bar shows that we're achieving those margins with much less capital employed and the bar on the right shows our average EBITDA margin is better than our peer set. I'd attribute those really to our focus expanding our chain margin, the advantaged feedstock that Albert just mentioned and of course the product mix that we have, which includes a variety of specialty products in our autoclavable density space, our Ventolin product mix, which has the emulsion paste based business and of course through the acquisition of Axial, the building products business which has a nice stable business in its building products businesses. So I thought what I'd also do is highlight that in January of this year the IRS released their final regulations which reaffirmed Westlake's originally issued private letter ruling and shows that our businesses are in fact qualified to continue and of course as we march down this path continue to grow our business opportunities through the use of the Mass Women partnership. This chart which you see on the left is a bit more complex than a typical C Corp structure, but it shows that we created a company called OpCo, which we contributed our ethylene assets into. That operating company OpCo has an ethylene sales agreement with Westlake Chemical, which provides a very stable fee based cash flow stream to OpCo. It provides a $0.10 per pound margin for every pound produced and of course the Mass Women's Partnership bought a slice of the ownership of OpCo. Provides therefore for the Mass Women's Partnership a very stable fee based income stream to allow to make distributions on a regular and growing basis. You can see that we've got still 87% of the OpCo companies still to drop in, so it provides a very long runway of capacity. And of course, through the structure we've created, Westlake Chemical still owns 52 of the partnership. You can see to the far right here in the lower right hand corner, I've got the four levers of continued growth: organic growth opportunities and we as I mentioned have expanded our ethylene crackers steadily over the last several years completing one of those just recently in Calvert City this year by adding 100,000,000 pounds of ethylene capacity. We completed an expansion last year as well in Petro One by adding two fifty million pounds of ethylene capacity and we'll continue to assess opportunities. You can see that the second opportunity to grow is through periodic dropdowns. As I mentioned, we still have 87% of the operating company yet to drop in. So to continue the growth of the earnings stream of the partnership and to continue to grow the partnership's distributions, a dropdown would certainly be a nice way to make that happen. The third bullet point you see is acquisition opportunities. And Albert noted, we have a joint venture with Lotte who's building an ethylene plant in Lake Charles. We have a 10% current ownership of that facility with an option to buy up to 40% more and are choosing up to three years post completion which would be in 2019. That would be a perfect type of asset that could be acquired by the operating company OpCo that would allow us to then sell a portion of that ownership of OpCo again into the partnership to grow its distributions. And then lastly, you can see that through that ethylene agreement, as I mentioned earlier, where it's getting $0.10 a pound for every pound of production at OpCo, certainly through mutual negotiations that margin could be expanded over time. It's a twelve year contract still with a lot of runway to it. So you can see we have four important levers to be able to grow this and it's a perfect vehicle to provide us a means to continue to fund the ethylene requirements that Westlake has or any other future needs that Westlake Chemical might have. So you can see through the significant investments that we've made to expand and integrate our platform, it's continued to bring enhanced margins, that chain integration that Albert spoke to. You can see the items that we've previously talked about have really continued to drive the EBITDA. And what I've shown here is the EBITDA base in 2013 and the series of either investments or debottleneck opportunities that we've taken over last several years to continue to grow our business and the EBITDA. Having just recently completed one of those steps just this year with the expansion of our Calvert City facility adding additional ethylene. These are just a few of the important integration projects that have continued to propel our EBITDA. And again, you can continue to see that as we see opportunities, we'll certainly pursue those but only those that really provide ongoing value. So let me pause here and I see we've got about five or six minutes for questions and take any that might be from the audience. We've got a mic here. So if just raise your hand, and he'll hand you the mic for questions. Repeat that. Just the maintenance schedule and the outages in the back half of the year? Yes. So just for to kind of level set everyone, as a result of the acquisition of Axial in August of last year, there was a lot of deferred maintenance on those assets that we knew we'd have to undertake. We started last year and I've given guidance for the year in terms of the kind of beyond normal maintenance activities. So the question was really the continued above normal maintenance activities for remainder of the year. What we've said is it will be a total for the second half of the year of $50,000,000 of non normal maintenance activities, split $25 in the third quarter and $25,000,000 in the fourth quarter. In the second quarter, we had about a $64,000,000 effect of that. And again, that's maintenance expense and lost sales as a result of that activity. And in the first quarter, about $69,000,000 of, again, lost sales and maintenance expense as a result of trying to bring these assets up to the Westlake operating standard. That is maintenance expense and lost sales while we undertake maintenance work. As of the end of the quarter? Based on margins as we expect them to occur. Further questions? I know it's early. We've got one right up front. Yes. What you saw on U. Capacities on polyacry in the next year or two? You want to go ahead. Well, I think you saw that from some of the slides, in fact, Albert spoke to this just a few minutes ago. And you can see that while we have a number of capacity additions, and this is a global chart showing polyethylene capacities globally and I've broken this chart down by grade of polyethylene, the blue being the low density, linear and high density. And you can see that with a and this is OECD's forecast of global growth. You can see that orange line is one times GDP and that magenta or purple line is 1.5 times. We're seeing polyethylene growth globally between 1.25 times to 1.5 times GDP. So certainly some of the industry forecasters like ChemData or in IHS are expecting that a lot of these new plants start up late this year or early into twenty eighteen, nineteen. And with that could come a margin compression if it all comes as planned. But you can see from this chart that actually in the period here from 2017 to 2021, the industry on a global basis is not being oversupplied. So what you really see here is really just a timing issue of when that capacity comes into the market and that's an uncertain call versus global growth. And I think the expectation that we've seen in growth demand growth that you can see here that we're really not, on a global basis, overspawning the market whatsoever. There's another question. Okay. Could you speak to the ability of substitution within the polyethylene market, the tubular for autoclave or HDPE for low density, should you get too much capacity that comes on all at once? Yes, certainly. HDPE is a very different product. It's opaque, stiff. So it fits its own market. Whereas linear low over the years, I think, yielding carbide invented the gas fixed linear low back in the '70s and through the 'seventy, 'eighty, 'ninety and so on and so forth, has taken a lot of the growth of LDPE. It's stronger, but it's also more opaque, less transparent than LDPE. So yes, there's a metallocene catalyst based Lindulo that could take some of the business away. But by and large, it finds its own niche. Between the tubular and autoclave, there's different technologies. So they really make different products. Tubular, again, is somewhere between linear low and low density, it's stronger. But in terms of TENSO, but in other problems and clarity, again, is not so good. We talk about coating grades that people have tried for blends and different grades of tubular, whether you can replace autoclave coating grades and so forth, they had not been successful on a big scale, maybe some areas, some lower quality areas. And this is what we expect going forward. Could you talk a little bit about the operational improvement initiatives you have at Axial, how that maybe you described the synergies relative to, I think, just the core performance improvement initiatives you have and when we could actually start to see that those benefits accrete to your P and L? Yes. So there are really several buckets of opportunities here. We've indicated that both combination of cost savings and synergies that in 2017 we'd achieve $120,000,000 of the total targeted $200,000,000 of synergies that we think we'll achieve by 2018. Those are separate and distinct from the operational improvements that I believe we're going to achieve by improving the reliability and operability of the assets that you see us undertaking today. That initiative started actually last year as we started doing a lot of catch up on some of this deferred maintenance. So those are kind of two separate buckets. And so as you see the maintenance expense and the lost sales while we're performing that maintenance, those are opportunities to really improve reliability and performance of the assets that improve operating rates over time as we do this work throughout 2016, 2017 and there could be some spillover into 2018. But separate from the cost reductions and the synergies that we are achieving now for the 2017 year, as I said, 120,000,000 this year, additional 80,000,000 to achieve the total $200,000,000 savings by 2018. See the clock has run out on us. So thank you very much. But should you have any further questions, always please feel free to reach out to us. Thank you very much for your interest. Thank you.