Brookfield Business Partners LP (BBU) 2016 Q4 法說會逐字稿

Welcome to the Brookfield Business Partners 2016 fourth quarter and year-end results conference call and webcast. (Operator Instructions) At this time, I would like to turn the conference over to Mr. Craig Laurie, Chief Financial Officer. Please go ahead, Mr. Laurie.

Good morning, everyone. Thank you for joining us for Brookfield Business Partners 2016 year-end conference call. With me today are Cyrus Madon, our Chief Executive Officer, and Jaspreet Dehl, our Senior Vice President, Finance.

I would at this time remind you that in responding to questions and in talking about new initiatives and our financial and operating performance, we will make forward-looking statements including forward-looking statements within the meaning of applicable Canadian and US securities laws.

These statements reflect predictions of future events and trends, do not relate to historic events, and are subject to known and unknown risks. Future events may differ materially from such statements. For more information on these risks and their potential impact on our Company, please see our filings with the securities regulators in Canada and the United States and the information available on our website.

We are pleased to report that Brookfield Business Partners completed a successful first year since our spinoff from Brookfield Asset Management Inc. last June.

We generated Company FFO of $200 million for the year compared with $264 million in 2015. Contributing to this difference is that our 2016 Company FFO benefited from a $40 million realized gain on the disposition of a portion of our facilities management business and our 2016 results include certain corporate expenses for the period after spin-off, which are not included in the 2015 results.

In addition, Company FFO in 2016 was impacted by weak -- weakened commodity pricing at our Canadian energy operations and a negative contribution from our graphite electrode operation as we reposition that business.

We reported a net loss attributable to unitholders for the year ended December 31, 2016, of $29 million primarily due to impairments taken within our energy and other industrial segments related to repositioning of businesses within these segments.

Our construction services segment had continued strong performance generating Company FFO of $94 million during the year, down marginally compared to $98 million in 2015. Our workbook continues to be strong and we continue to obtain meaningful projects across each of our primary operating regions.

Our other business services segment generated Company FFO of $54 million during the year compared to $83 million in 2015. Our results in 2015 included a $40 million realized gain on the disposition of a portion of our facilities management business to the institutional partners.

Our facilities management operation has generated growth from existing clients in both North America and Australia. Our global relocation services business won several new contracts including renewal of our contract with the government of Canada and benefited from cost saving initiatives in the period.

Our financial advisory services business performed well in 2016 generating fees on a number of advisory assignments in the infrastructure, healthcare and real estate sector.

Our energy segment generated Company FFO of $63 million for 2016 compared to $69 million in the previous year. We generated strong results in our Australia operation which also benefited from the inclusion of a full-year of results.

We are one of the leading suppliers of gas into the Western Australia market and are largely insulated from commodity price volatility due to a hedge position for oil and long-term customer contracts for gas.

Our Canadian operating results were impacted by exceptionally weak natural gas prices during the first half of the year which have since begun to recover.

Our other industrial segment delivered Company FFO for the year of $6 million compared to $14 million in 2015. We realized $9 million of gains for unitholders this year on the monetization of equity securities in this segment, which were acquired at depressed prices earlier in the year, and our bath and shower products manufacturing operation had a strong year as a result of new product sales and the continued growth of the US housing market. These gains were offset by an expected negative contribution from our graphite electrode operation, where we are focused on operational restructuring efforts.

During 2016, we worked to strengthen our balance sheet. We successfully accessed the capital markets to raise $384 million of equity and at the end of the year our assets totaled $8.2 billion. Our consolidated net debt to capitalization is 11% and our corporate debt facilities are currently undrawn.

Total liquidity at the end of 2016 at the corporate level was approximately $1.1 billion consisting of our revolving facility, our $500 million facilities at Brookfield Asset Management and approximately $575 million in cash.

In December 2016, we made the decision to issue units in order to support our growth. While we have substantial liquidity and will generate additional liquidity from cash from operations and sales of businesses, we have an active pipeline of investment opportunities which should come to fruition over the next few years, if not the nearer term.

Further, while it would be financially accretive to fund opportunities with long-term debt at the Brookfield Business Partners level, we believe the increased financial flexibility and reduced risk of additional equity will prove to be a competitive advantage over the longer term.

Our preference is to retain little, if any, debt at the Brookfield Business Partners level in order to maximize our financial flexibility. We believe this capital structure will be supportive to our business during periods of financial distress or capital market volatility when opportunities become available for better valuation and liquidity is hard to come by.

We believe our business is well-positioned with permanent capital, a global footprint and diversified operations providing us the cash flow and asset coverage to maintain a strong balance sheet, ample liquidity and a prudent capital structure.

I will now pass the call to Cyrus to speak to our strategy and growth initiatives.

Thanks very much, Craig, and good morning, everyone. As we look back on our first year, we believe we have made great progress on a number of initiatives during the year, combined with continued progress across our operations.

Our construction services business is a leading international contractor with a focus on high quality construction primarily on large-scale and complex landmark buildings and social infrastructure.

During 2016, we constructed over $4.4 billion of residential, office and retail projects and secured about $4.6 billion of new work. Our backlog at year end was approximately $7.3 billion and we expect this backlog to remain strong into this year given advanced negotiations on several new projects.

Geographic and sector diversification is one of our primary goals in this business as it mitigates risk within our workbook and our focus remains on key clients who are looking to build high-quality residential, office, retail and hotel projects.

In our business services segment, we continue to benefit from a strong North American housing market within our real estate brokerage business. During 2016, in furtherance of our strategy to expand the global footprint and scale of our facilities management operations, we executed two transactions at attractive valuations including the acquisition of a US-based datacenter facilities management company and the acquisition of a Canadian facilities management business with about 50 million square feet of managed real estate.

While these acquisitions were relatively modest in size and scale, we expect that they will assist to increase the overall scale, reach and efficiency of our business and help to increase the overall value of that business.

Our energy business is primarily comprised of oil and gas exploration production principally through our coal bed methane, or CBM, platform in Central Alberta, Canada, and an offshore oil and gas operation that serves the Western Australia market. Production in our Canadian operation continues to outperform original third-party engineering forecasts and active cost management and operational improvements over the last few years have reduced operating costs.

Our Western Australian operation is comprised of three domestic gas plants and two floating production storage and offloading vessels and, as Craig mentioned, it is largely insulated from commodity price volatility due to long-term customer contracts for natural gas and a hedge position for oil.

In both Australia and Canada, we are involved in ongoing exploration and development initiatives intended to enhance base production and solidify future growth.

Our energy operations also include contract drilling and well servicing operations primarily located in the Western Canadian Sedimentary Basin. With the improvement in oil prices, we have seen a modest increase in the demand for these services recently and are hopeful improved results for 2017.

Within our industrial segment, the contribution from gains realized on our equity securities investments and from our bath and shower products manufacturer were partially offset by negative results at our graphite electrode operation. Graphite electrodes are primarily used in electric arc furnaces and mini-mill steelmaking and a significant portion of our sales is to the steel production industry.

The losses at this business are as expected as we continue our operational turnaround plan implementing shorter lead times, lower costs, higher -- developing higher-quality products and superior service, all of which should allow us to generate cash flows and strong returns as we come out of the trough in this cyclical business.

With a firming order book and three plants running at full capacity following the temporary closure of a fourth facility during the year, we remain focused on continued operating improvements at these facilities to further reduce costs and increase efficiency.

Our palladium mining operation continues to execute on its operational improvement plan having started a lower-cost underground mining method during the fourth quarter which should lead to increased production volumes, which we are starting to see demonstrated within the business.

With the market price of palladium metal having rebounded during the year to between $700 and $725 per ounce, we are selling forward about half of our near-term sales as a means to de-risk our cash flows.

During the year, we continue to actively pursue new investment opportunities and work to monetize investments where we believe we can redeploy capital into higher-returning opportunities. I have mentioned previously that our operations, and the wider Brookfield firm, provide us with the ability to invest globally.

In 2016, we actively reviewed opportunities in Brazil and India, which resulted in our first investments in both countries.

In India, we made a $70 million senior secured loan during the fourth quarter to Peninsula Land, a leading Indian homebuilder with a leadership position in the high-end central Mumbai market. While this was a relatively small investment, we believe it is a starting point of the types of opportunities that we may be able to pursue in India.

Our investment in Brazil was more significant. At the beginning of the fourth quarter of 2016, together with our institutional partners, we entered into a definitive agreement to acquire a 70% controlling stake in Odebrecht Ambiental, or OA, Brazil's largest private water distribution collection and treatment company. This is a complex transaction and we expect closing during the first half of 2017.

To date, we've received regulatory approval from the Administrative Council for Economic Defense and the Competition Bureau in Brazil. We continue to be encouraged by the number and scale of potential opportunities we have seen to grow this business and, given OA's operational footprint and technical capabilities, we believe it is well-positioned to provide a growing share of the water and sewage improvements planned in Brazil over the next few decades, enabling us to generate strong and stable long-term returns from this operation.

I would just mention that we have many conditions in our agreements for this acquisition that are in our favor and the vendor, the company and ourselves are working through these issues and we feel pretty confidently we will close this in -- if not the end of the first quarter, sometime in the second quarter.

In addition to business acquisitions, we have the flexibility to invest in a variety of forms and, from time to time, we acquire non-controlled debt or equity securities on a value basis.

Early in 2016, we took advantage of the market selloff in high yield debt and acquired debt securities at attractive valuations in a number of energy-related industrial businesses where we believe the business had solid long-term fundamentals. These investments increased in value during the course of the year and we plan to reinvest our realized proceeds into other opportunities.

Another benefit of acquiring debt securities on a value basis is that should the issuer be unable to service its debt and the Company be forced to undergo a restructuring process, we may be positioned to acquire an ownership interest in, or control of, a great business at an attractive valuation; this is how our investment came about in TCEH Corp., a large merchant power generator in Texas, that filed for bankruptcy protection in 2014.

Compared to our acquisition price, the trading price of TCEH debt declined as a function of lower power prices in Texas and we reduced our carrying value accordingly. At the same time, we collected interest payments during bankruptcy and, more recently, received a dividend following its emergence from bankruptcy and, in total, these interest and dividend payments were fairly significant.

TCEH emerged from bankruptcy as Vistra Energy or Vistra. Brookfield Business Partners' net proportionate interest in Vistra is less than 1%, while the overall Brookfield-led consortium's interest is about 15%.

Vistra is the largest electric power generator and retail electric provider in Texas with approximately 17 gigawatts of generation capacity and 1.7 million retail customers. Today it is led by a new management team, it has a strong balance sheet and its equity currently trades at a double-digit free cash flow yield. And for any of you who are interested, Barron's published a nice little article on this company over the weekend.

In January of this year, last month, we closed the sale of Maax Bath and Maax Spas generating approximately $140 million of net proceeds to Brookfield Business Partners. Given Maax is now an industry leader in North America with strong sales and lean operations, we believe it was the opportune time for us to monetize this business and recycle capital into other opportunities.

You may remember we acquired Maax during the US housing crisis when the company was distressed. We repositioned this company by appointing a new management team; we have redefined the strategy, reduced costs and focused on new product development. We believe this is a great example of execution of our operational turnaround capability, which resulted in a significant gain for our business.

Today we announced that we entered into a definitive agreement to purchase a company called Greenergy, a leading UK provider of road fuels. Greenergy has over 300 kilotons of biodiesel production capacity, significant import and storage infrastructure and an extensive distribution network which delivers over 18 billion liters of road fuels annually.

Greenergy has a track record of providing customers with reliable and competitive supply and is well-positioned to continue growing its service offering for its long-term UK customer base. This investment expands our footprint in the European market and we plan to broaden Greenergy's operations outside of the UK by leveraging our global presence.

Looking forward, our primary focus for this year is to complete the various strategic initiatives that are underway. We believe these acquisitions will significantly expand the scale of our operations and meaningfully add to our overall earnings and cash flow over the longer term.

In addition, we continue to evaluate several attractive, value-based opportunities across the globe as we endeavor to create long-term value for your business.

That completes our review of the results for 2016. Thanks for joining us. I will now turn the call back to the operator to moderate questions.

(Operator Instructions) Bert Powell, BMO Capital Markets.

Good morning, Cyrus, Craig and Jaspreet; a question on the construction business. Cyrus, does the mix in the backlog support margins recovering at least back to where they were in 2015?

Yes, it does. That is a big backlog and given the mix we have, we should be able to deliver enhanced margins.

Is that simply with the Australian contract gone or was it not just the Australian contract that was the (multiple speakers) --?

That was one particular contract that had the largest impact that we highlighted, Bert, in the past, but I will say this business contract to contract is variable and I think you have to look at it across sectors, across geographies and across the type of business we are doing, which is the way we look at it here.

It is very difficult for us to tell you exactly what is going to happen in this business just because there are so many geographies and different types of contracts that we are signing up, but based on the backlog today, we feel pretty comfortable that we should be able to strengthen our margins.

Okay. I appreciate all of that, Cyrus; just wanted to see if we were -- that there was a shift in kind of the nature of the work such that the margins would be more at these levels or the overall -- if you kind of look at it holistically, it should support higher (inaudible), which is what you are saying.

Yes.

Okay, and just on Greenergy, can you just expand a little bit on the concept or the idea that you can leverage platforms outside of the UK to grow that business? I'm just wondering if you could share with us exactly what you are thinking about. And then, related to that also would be why would you take your position down? Why would you syndicate down from, I guess, 27% down to 13% for this particular investment?

Yes, so I will answer the second one first but we have co-investors that we work with, we have institutional partners that we work with; some of them have an interest to take more or less of a particular transaction and we allow them to do that from time to time.

And again, for Brookfield Business Partners, it is a huge advantage to have these institutional relationships and institutional partners simply because we can execute transactions that are of a massive scale relative to the overall size of Brookfield Business Partners today.

So our thought is, we would like to keep our partners happy; they are important for Brookfield Business Partners' overall strategy going forward and that is why some of these ownership percentages may change a little bit between signing a transaction and closing it.

Okay, no; that is good.

And then, as to expanding geographically -- look, this company, Greenergy, it has a small -- small operations in Brazil, Canada, Middle East, which are all areas where we have very substantial operations, so we have a footprint, as you know, in those geographies, and bringing our people and our expertise and our relationships and our capital, we believe there are opportunities to expand that business in our core markets.

Okay, I didn't appreciate that they had some beachheads in other (multiple speakers) --

Very small, Bert, at this point so I certainly don't want to overstate this; it is very small at this point, but it would be our hope and desire to grow those businesses.

Okay. Thank you, Cyrus.

Nick Stogdill, Credit Suisse.

Hi; good morning, everyone. A couple questions on the quarter to start with. First on Maax, are you able to provide the IRR for this investment, or at least put into context of the long-term average IRR generated by Brookfield private equity; that was typically around the 23% range?

Yes, so Nick, we don't typically disclose IRR by investment, but I think Craig can probably give you some -- a little bit of context around this particular investment.

Sure, so as we mentioned in the release, our net proceeds to BBU are approximately $140 million, and we referenced an approximate gain after transaction, tax and other costs of $80 million, which would leave you $60 million. Within the $60 million, there is about $10 million of tax, which would give us an approximate book value of around $50 million. So, obviously, if you were to look at it on a returns basis or a multiple, it would be $140 million divided by $50 million so approximately 2.8 times representing a very strong return.

Okay, thank you. That is helpful. And just on OA, so you mentioned the complexity of the transaction; that is probably kind of just pushing the timeline out a bit or changing it a bit, but it also looks like the -- your dollar value of investment is going up potentially. Is that accurate? It looks like by $100 million by my estimates if you take a 30% stake.

Yes, so again, as I said, our stake in these investments will move around a little bit depending on which institutional partners we bring into a transaction. So our latest best guess is we will end up with 30%, and the numbers have moved a little bit.

The other thing I would say is we are -- we have found some specific opportunities to potentially grow this business and we may put a little more capital into it based on how those opportunities come to fruition, which has always been part of our plan that -- our hope is that this will be a great platform company that should grow very substantially for many years.

Okay, great. Thank you. And then just one or two quick strategic ones, if I may; a few months ago, you provided a breakdown of investment opportunities or M&A opportunities by geography and industry and, at that time, the bulk of opportunities, maybe a little over 50%, was in North America. Has that changed meaningfully given what's happened in the US with the new administration just in terms of your balance of opportunities and valuations?

I don't -- I would not say it has changed meaningfully, no.

Okay. And then lastly, just on the liquidity -- so $1.1 billion at the end of 2016 and then if I kind of walk through for OA and Greenergy and the investment in India, it is something in the order of magnitude of $800 million.

Is there any rules of thumb really that you can provide as a percentage of assets or sales on the liquidity, because I thought your position was strong, I guess, prior to the equity raise. So I'm just trying to figure out or assess what is a normal level -- and I know it can be -- it can depend on the opportunity set out there, but just kind of anything you can help guide us on the liquidity?

Yes, so look, I think certainly over the near-term and medium-term, our objective is to maintain a debt-free balance sheet at the corporate level, and that is really the overriding governor and how we will think about liquidity and, obviously, we need to compare that to our pipeline of opportunities and what we see happening over the next couple of years; so it is nothing more complicated than that.

Okay, great. Thank you very much.

(Operator Instructions) Anthony Zicha, Scotiabank.

Hi, good morning. Cyrus, could you give us a bit of color on the UK competitive landscape tied to multiplex and could we see some margin pressure going forward? Have we seen any slowdown or project deferrals tied to Brexit?

Yes, so there are three or four large UK construction firms and, more specifically in the London market, there are three or four large firms that participate in that market and we are one of them. We don't see any reason for that to change and the business has -- it is a competitive business; it has always been competitive and it will continue to be competitive.

We get picked and we are awarded contracts simply because we can fulfill these large-scale, complicated projects. We have got the supplier base in place and the reputation of completing buildings on time and on budget, so -- and this business has been around for a long, long time and has been built up for a long, long time.

As to margins, we are not seeing anything unusual in terms of margins today when we are bidding on jobs compared to say three or four years ago, if that is what your question is.

And in relation to Brexit, we are obviously watching it very, very closely, but we signed up a lot of work this year in the last year and we signed up a couple of jobs since Brexit, specifically in the office sector, so it isn't impacting us; that is not to say that it may not in the future, but it isn't impacting us at this stage.

Okay, great. With reference to energy, could you please provide a bit more color on -- that's tied to the impairment charge and if you could give us a bit of an outlook what you see in Canada?

With reference to energy?

Yes.

Yes, so I will let Craig speak to that.

Sure. So, as we mentioned, we did have -- we will call them two impairments over the year: one was on GrafTech as it related to our held-for-sale; the remainder, approximately $130 million or so, was on our TCEH security.

As we mentioned, we do mark that to market and so it wasn't a change in our carrying value, the carrying value was already marked down; it was simply a movement from other comprehensive income through net income that occurred on the emergence from bankruptcy.

Okay, great. Switching over to GrafTech, Cyrus, could you give us a bit of color on the competitive market overseas and in the US? I believe the US market represents about 25% so an update in terms of pricing and also on demand? And the last question tied to that would be when do you expect the fourth plant to be restarted and how important is it?

Well, so -- those are all good questions. The fourth plant is obviously our least efficient plant, so we are not highly focused on restarting it today. Our strategy was to run the other three plants at a very high capacity utilization and that tends to bring our unit costs down, and it is a strategy we have employed in several of our industrial businesses in the past.

Volumes, just to put it into context, volumes at the beginning of last year, capacity utilization across the industry was probably in the 60%-something range, 60% to 65% range. Our view is capacity utilization today is now in the 70% range and that it is improving and our order book is filling in, so are competitors', and we think by the end of this year, it ought to be in the 80% range.

So without a doubt, volumes are picking up. There is industry consolidation underway. The number two and three player have announced a merger; we are waiting for that to close. We have no idea what their strategy is, but a number of plants between those two organizations are very high-cost producers, so we believe that capacity will come out of the -- some capacity will come out of the market.

Pricing remains very, very weak, in fact, probably at a -- if not an all-time low, one of the lows. And in our experience in this type of business, we need to see capacity utilization for the industry to get closer to 90% before we can really start pushing on pricing. But we are the industry leader today and we will be able to lead that when the industry conditions are right.

Great, thank you. And the last question; what, if any, part of the business is tied to NAFTA?

That is a good question, so --

I imagine at Armtec there is bit of exports there, but in terms of other businesses?

Cyrus Madon

Yes, there is virtually nothing in Armtec actually. GrafTech would be one, because we have a facility in Mexico, but GrafTech imports all the raw materials for that facility from the US, so it is not entirely straightforward, but otherwise, I can't think of anything specific.

Okay, well thank you very much for that.

There are no more questions registered at this time. I would now hand the call back over to Mr. Madon for closing comments.

Well, thank you very much for joining us this quarter and we hope to have additional positive news for you on the next call. Look forward to speaking then. Thank you.

This concludes today's conference call. You may disconnect your lines. Thank you for participating and have a pleasant day.