BRF SA (BRFS) 2008 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by. (OPERATOR INSTRUCTIONS.) As a reminder, this conference is being recorded.

I would now like to turn the conference over to [Ms. Fabiana Lima] of Financial Investor Relations, Brazil. Please go ahead.

Good morning, ladies and gentlemen, and welcome to Sadia's conference call to discuss the second quarter 2008 results. I would like to mention that a slide presentation is available on the Company's website at www.sadia.com under the Investor Relations section.

Before proceeding, let me mention that forward-looking statements are being made under the Safe Harbor of the Securities Litigation Reform Act of 1995. Actual performance could differ materially from that anticipated in any forward-looking comments as a result of macroeconomic conditions, market risks and other factors.

With us today in Sao Paulo are Mr. Welson Teixeira, Jr., Investor Relations Director, and Miss Christiane Assis, Investor Relations Manager. First, they will comment on the Company's second quarter 2008 results. Afterwards, the executives will be available for a question and answer session.

It is now my pleasure to turn the call over to him. Mr. Teixeira, you may now begin.

Good morning. Thank you for attending our conference.

The rise of the international price of oil and the growth of the world economy drove the price of agricultural products up in the first quarter of the year. The price of corn and soybean, the main inputs of our industry, are 33% and 50%, respectively, higher than the first quarter of 2007. The commodities pricing rising has caused food inflation worldwide. In spite of this threat of a slowdown in the world economy, the business trend is terrible to Brazil and, of course, to Sadia's business.

In the domestic market the outlook for the future signs are potentially declining in the purchasing power of the less privileged social classes. And the main factor responsible for such effects will be the inflation in the price of food, which will take a larger share in the population's income.

Even with this scenario of the cost pressure, the results of the second quarter of 2008 were in line with the Company's expectation. Gross revenues in this period reached BRL 2.9 billion, an increase of 26.5% when compared to the second quarter of 2007. EBITDA reached BRL 271 million, 18.4% higher with a margin of 10.5%.

Sadia's sales in the foreign market continue to be driven by strong demands and the fuel prices. An upturn may be observed in the mix sold in this market such as increase in the revenues brought by poultry cuts of 72% in second quarter of 2008.

In the domestic market, the segment of processed products, which accounted for around 80% of the revenues, exceeded the second quarter of 2007 figures by 24.9%. To maintain a continued growth aligned with its strategy, Sadia invested BRL 952 million in the first quarter -- in the first half of this year out of an estimated total of BRL 1.6 billion for the year.

In view of the competitive condition of Brazil as a producer of animal product. The Concordia Bank operation has been approved and its purpose is to take advantage of the business opportunities and synergies provided by the vendor chain of the Sadia Group. The Company acknowledges the competence of its employees, who ensure the strengths of its brand and the high quality of its products contributing to enhance the credibility of the Company with customers, shareholders, investors and suppliers.

Now, Christiane will pass through the presentation and, after that, we can open to question and answer. Thank you.

Good morning to everybody. I'm going to pass us through the presentation and try to already answer some of the doubts that you might have. Okay?

So, slide number one, gross operating revenue. We saw during the quarter an increase in our revenues of 26.5%, with 52% of the revenues coming from the domestic market and 48% of the revenues coming from the export market during the second quarter.

Next slide. The total growth of the domestic market for this Q in relation to last year was 23.6%, and the growth of the export market was 29.6%. We saw a gross margin during the second Q of 23.8%, primarily with pressure of the cost of grains in our cost structure. As you know, grains are 25% to 30% of our cost structure. And thus, we saw a diminution from the gross margin of last year. Net income at 4.6% at BRL 120 million and EBITDA for the second Q, BRL 270 million at a margin of 10.5%.

The next slide. For the semester processed products continues to be the largest portion in Sadia's sales at 47%. And we also see an increase in relation to poultry cuts from 19% of total revenues in the first semester of last year to 23% of revenues during the second semester.

Next slide. In relation to the domestic market, we see processed products increased its participation to 81%. And we see poultry lower its participation from 9% to 7% of total revenues. We also see beef slightly increasing its participations 2%. I'm going to enter into more details as to why of these differences in a later slide.

In relation to -- next slide -- the export market, we see beef decreasing in the semester comparison from 8% to 5%, and we see poultry increase from 68% to 73%. Processed products continues to be 11% of our total revenues in the export market.

Next slide. Export by regions. We saw during this first semester a very strong demand for our products in the Middle East, increasing the Middle East participation from 23% to 26%. We saw a very strong increase in Asia as well, which is basically comprised by Japan and, therefore, an increase from 15% to 17%. We also saw an increase in the Americas, a slight diminution in relation to Eurasia, which basically comprises Russia. And we also saw a slightly lower demand in relation to Europe during this first semester.

The next slide gives you an idea in relation to the price of a whole chicken at USD $2,200.00 and the -- going through the chain, and the most -- the highest price for July, '08 was a special cut that we sent to Japan at USD $4,100. And this is basically where you see our strategy of trying to focus on poultry cuts, as well as processed poultry for the export market.

Next slide. Volumes and revenues growth here. So, in relation to the tons, in relation to the volumes, I'd like to enter a little bit of detail here.

In relation to the domestic market we saw a growth of 7.8%. There are a couple of reasons for this single-digit number. Processed products, as I mentioned before, the largest portion, grew 9.1%. We saw a little bit of compression in relation to the capacities to sell in relation to some of our products in this market. Okay? And we were also the Company to start passing through prices through the first and second Q of this year. We're going to see our increases in prices in a further slide in relation to the processed products.

Poultry we see a fall here in our sales of almost 20%. And why is that? We privileged the export market and redirected poultry from the domestic market to the export market. Okay?

In relation to pork, even though we do see an increase here in pork of almost 30%, it is based on a very small base. And in fact, we saw a lack of pork in the domestic market in relation to the supply of pork in the domestic market.

In relation to beef in the domestic market, we see a pretty large increase. And this is basically due to the inverse of the story of the chicken. We are redirecting beef from the export market due to the European embargo on Brazilian farms to the domestic market. And such, we increase the 4,000 tons in the domestic market, reaching 220% growth. On the other hand, in the export market we see a 9.5% average growth.

In processed products we see a slight growth of 4.5%. And I'd like to comment that this was basically due to punctual factors in some of our sales to the Americas. Okay? We expect these factors to be fully redirected by the third Q.

In terms of poultry, we see a substantial growth of 17%. We saw, as I mentioned in the previous slide, a very strong worldwide demand for poultry in all the segments where we export; being the only exception, Europe during this first semester.

Pork. Again, here is a decrease of almost 16%. This pork was redirected to the domestic market in order to favor the processing of this commodity.

The beef, as expected, also fell 5,000 tons. And we redirected these 5,000 tons towards the domestic market.

The next slide. In terms of the domestic market and processed products, I'd like to point out that we had a very substantial increase in terms of prices in the processed products of 14.6% over the second quarter '07.

We are seeing a very strong demand in relation to processed products in Brazil. We are, in fact, seeing a certain substitution from more expensive commodities to our products, our more competitive products, in the processed segment. Okay? So that, even if we consider -- and we have been seeing this already during the second Q and expect to see this going forward -- inflation in relation to food.

Again, we do not see volumes diminishing going forward. We see there's still room for volumes in the processed segment, the more competitive part of the processed segment, to continue to grow. And we believe that it's possible, due to Sadia's strong brand and strong positioning in the Brazilian market.

Poultry increasing 20%; pork increasing 25.7%; and beef, 10%.

Next slide. In relation to prices in the export market we saw processed products increase in Real terms 18%. When we consider the average devaluation of the dollar against the Real for this quarter, we are considering almost 38% in increase in dollar terms.

In poultry we see a continual increase in relation to our prices in poultry in the export market. 21.6% in Real terms. Almost 41% in dollar terms. Basically, this increase is due to the strategy of the Company to redirect sales from whole poultry to poultry parts, focusing in more value-added products in the export market.

In relation to pork, a 30% increase in Real terms; almost 47% in dollar terms. And beef, 12.6% in Real terms; almost 30% in dollar terms.

In relation to the next slide, statement of income, I guess I'd like to point out the increase in our COGS of 31.3%. And again, that was basically due to the increase of grains, corn and soy, in our cost structure.

Next slide. Here we have a little bit of the historic highlights. We've been basically through most of these. Like to point out the sales expenses this quarter of 15.6%, which comes at a lower number historically due to dilution in fixed costs, due to increases in volumes sold and prices.

Net income at 4.6%.

Next slide. We have at this point reviewed our guidance for our EBITDA margins from 12% to 13% to 11% to 12%. The reason for this is that we have seen during 2008 a larger pressure in relation to grains than we had anticipated. Corn has been in Brazil 33% increase, while soy has been at a 50% increase. And these numbers are higher than what we had originally anticipated for this year, which had basically made us review our guidance for EBITDA 100 basis points below than originally disclosed.

In relation to domestic volumes and export volumes, we have not changed our volumes. We still believe there is strong growth, both in the domestic market and export markets for our products. And we continue with our CapEx plans for 2008 at BRL 1.6 billion.

The next slide. It gives you a breakdown of where we are during the second Q. Okay? And you see clearly the breakdown between processed, poultry, pork, beef and other.

Next slide, in relation to financial indebtedness. This increase in relation to our CapEx has also increased our net debt to BRL 2.1 billion, bringing us at a net debt to EBITDA of 1.8, which we still feel is quite comfortable in relation to our structure.

Next slide. A little bit of the historic multiple net debt to EBITDA. Again, the 1.8 where we currently are at. Very comfortable in relation to our structure.

And the next slide, ranking in terms of products in Brazil. We continue to be ranked at number one in relation to frozen processed products with almost 43% of the market share. Refrigerated processed products at 30.6%. Margarine at 45.4% of the market. These are all readings from May '08.

A little bit of our releases in the last Q. The lasagna with sausage, the four-cheese lasagna from our Rezende brand, the sausage without fat, and hotdog with cheese.

Next slide. In relation to our shareholders we saw a significant growth in relation to our liquidity of our stock, BOVESPA reaching BRL 37 million per day. Our ADR is reaching almost 27% of our total program at USD $15 million per day, and LATIBEX reaching EUR 600,000 per day, which brings us at a total liquidity of almost BRL 64 million of daily liquidity for the Sadia stock. The foreign investor continues to be the largest part of our shareholders at 57% of our preferred shares.

The next slide is a little bit about the bank. Welson mentioned this in his initial speech. It gives us a little bit of the strategy of the bank. We have recently received approval from the central bank to start operating. This slide gives us a little bit of the purpose, which has already been mentioned, which is to basically structure financial solutions and to leverage Sadia's productive change. Okay?

So, they can basically target our integrated partners with loans, producers of raw material for the grains, our suppliers, our associates and our retailer customers. When we look at this chain, we're looking at approximately 200,000 relationships that can be leveraged and able to grow Sadia as well.

The next slide is basically a little bit of what I've been mentioning here. Okay? So, offer the banking products to the suppliers and customers to meet their financial needs. We have had -- Sadia's a 60-year-old company. And we believe that a lot of these contacts we have had long-term relationships with and are very familiar with their credit needs.

In terms of the next structure, you see where the bank is going to be. So, there is Sadia the Company. There was created a financial holding, okay? And below that financial holding is Concordia Banco with initial net work of BRL 35 million. And we continue to have our broker-dealer with a net worth of BRL 78 million.

At this moment, this is the end of my presentation and we are open to the Q&A part of our presentation. Thank you.

Thank you, ladies and gentlemen. We will now begin the question and answer session. (OPERATOR INSTRUCTIONS.)

I would like to mention that today's conference call is being held exclusively for financial analysts and investors. We kindly ask reporters who may be participating in this conference call to please direct any and all questions to the Company's press relations department.

Our first question will come from Flavio Barcala from Citigroup. Please go ahead.

Good morning, everyone. Good morning, Welson. Good morning, Chris. So, actually my first question is regarding Brazil's spike in local inflation. So, I would like to know if the Company is already seeing some kind of reduction in the consumption of products, or some kind of change in sales mix due to this higher inflation.

Hi, Barcala. Actually, at this moment we see something interesting that actually benefits our processed products, or Sadia's processed products. Currently, due to the high food inflation in the market, we are seeing some commodity (inaudible) products, such as beef or pork, at very high prices. And this benefits the substitution from these (inaudible) products to what I can say the more competitive end of our processed products. Okay?

So, we saw that substitution in the second Q. We believe that this will continue moving on to the third Q. Okay? We actually had a lower -- a certain limitation in relation to certain products of capacity in the second Q. Okay? So, some of these more competitive products, the demand was so strong, the anticipation of this demand was so strong in the Brazilian market that we actually had a limitation in relation to this capacity.

Moving on to the third Q we have a couple lines coming in. So that, we believe that by the end of the third Q we will fully be able to attend this growth in relation to these more competitive processed products.

Additionally, I'd like to mention that you have a very strong brand to take advantage of these opportunities, as well as a good -- a very strong distribution capacity in domestic market.

Okay. Got it. So, I have just -- regarding the most expensive products, is the Company seeing some kind of reduction, the most expensive processed products due to this high inflation?

Yes, we have. Yes, we have. We've already seen what we consider a trade-down from the more expensive processed products to the more competitive processed products. That does not mean that there's necessarily a margin compression. Okay? Because the cost of these more competitive processed products is also being redundant, more competitive.

Okay. So, my final question is regarding poultry exports. So, due to the combination of the Brazilian currency that keeps appreciating against the dollar and the current high levels of poultry in the international market, is the Company currently seeing some kind of difficulty to pass through these higher grain costs to international clients?

No.

No. At this moment we see very high demand worldwide. The demand for the second Q was extremely strong in the Middle East.

In Japan.

In Japan, in the Americas. It was a little tougher in Europe. The good news is that, for the second semester we already see increases in volumes and prices for Europe as well. And we see a continued strong demand in the other markets, both for volumes and prices.

Our next question will come from Juliana Rozembaum from Unibanco. Please go ahead.

Hi. Good morning, everyone. I was wondering if you could help me better understand the change in the mix in poultry exports. The higher selling of parts, was that a result of new clients or new markets, or you've just been able to sell parts to existing clients? So, I would like to understand a little bit better the mix.

We increased the sales basically in the same markets; is not new markets. We have seen the demand very strong with the same markets. We are introducing new markets, but not these representative figures. The cuts increasing, but especially in Japan.

And how much parts is already of your total poultry exports and how was that number historically?

Last year, Juliana, the poultry cuts were 34% of our total exports. And this year, they represent 41%. But we cannot mention that number without mentioning that whole poultry was 35% and, this semester, it is 32%. So, there is a clear shift and intention to move from whole poultry to poultry cuts, which have a higher added value, especially in Asia as Welson mentioned.

And do you think -- where do you think it will go from here? I mean, in terms of still adding cuts?

That's in a separate market, Juliana. The demand is strong in Asia in this kind of product. We believe that this market will continue increasing, and of course in Europe that we are more confident for the second semester. I think Europe, it could be an opportunity for us.

Perfect. Thank you. And just a follow-up question. Yesterday you mentioned in the press, I mean I saw it in the press, that the Company's changing its plans towards its beef investments. Could you elaborate a little bit on that?

Yes. We have in our plans that we make a disclosure some months ago, some quarters ago, that we want to achieve 6,000 heads per day in terms of capacity. Today we have 2,000 and you are using 60% of this capacity. We continue to -- with intention to invest in this kind of business because it is important for us to two reasons. The first one is that it is important in terms of the market. Our customers in export market buy different kinds of product and we have an opportunity to sell this product in these methods.

The second part is because it is important source of raw material for our processed products. We have intention to continue this market, but the scenario is changing totally. It is totally different than we had some quarters ago. And we are studying the best solution for our business in terms of -- this product. Of course, it could be an acquisition could be an expansion in greenfield, but we are studying the best solution. But important to talk that we continue in this market.

Thank you. Our next question will come from Alex Robarts from Santander. Please go ahead.

Yes. Hi, everybody. Thank you. I wanted just to go back to the exports again. It was interesting to see that the strength in the Middle East and that seemed to come at the expense of Russia, among other things. And I was a little bit surprised about it, that I wondered if you could kind of give us some color on what is the driver right now in the Middle East? I mean, is it just simply new markets opening up? Is it a function of some of the domestic markets in that region just having problems with their own poultry factories, or is there some sanitary issues that is helping this?

And then I guess kind of connected to that, I was thinking that the new joint venture in Russia in Kaliningrad would have kind of helped that region. And I wondered if we did see some processed products sales out of that joint venture into Russia? And if you could give us some color on that, that'd be great.

Okay, Alex. In Middle East, the demand is strong. They continue to consume chicken from Brazil. It's strong for us and the other competitors from Brazil. I think they have a very strong financial position because increased the price of the oil and they have a very positive financial position. They are increasing the imports of the products. We continue that. And we are -- we have plans to make a second plant abroad of Brazil. And the idea is to explore better this Middle East market.

And the talk about Russia. Our joint -- we got a joint venture to explore our brand, the strong brand that we have there. We start up the plant in this year there and we are start production to explore that (inaudible) processed products. We will supply raw material from Brazil to process the products there and they make the sales and distribution with our brand. I don't know if you need more information regarding this joint venturing, but in general -- the general line is I think is what we can talk.

Alex, just to complement, the decrease in sales in Russia were due primarily to pork exports, okay? So, the main product in our exports to Russia is pork. It's not poultry. And as I mentioned in my presentation, those -- that pork was redirected towards the processing in the processed products in the domestic market since the demand was so strong. And we do not see an adequate increase of pork prices in Russia to justify the export of pork to that market.

Did we actually see some sales into Russia from the joint venture during the quarter?

Yes. We started the sales, but we had some problem with the involvement, the issues that started in the production. We have some delay in the production part two or three months ago, but now the things are going better.

Okay. Okay, thank you. And I guess the second question really, I was interested to hear about your guidance change on the margin. And you've explained this movement of 100 basis points lower primarily due to higher average grain costs. I'm wondering, is it safe to assume, I guess, that we now might have an average cost for the grains this year closer to about 30% as compared to maybe what the industry was expecting earlier this year at about 20%? I wondered if you could kind of give us some color there.

And kind of the second part of this is that your first half EBITDA margin is around 11.3. Your -- and I'm just wondering, given the recent movements in the grain prices, do you think as you look into 3Q that there could be a little bit more softness or I mean, otherwise said, a little bit more pressure on that gross margin vis-a-vis 2Q? Or do you think that maybe this 10.5 level could be kind of the bottom as we go into the second half?

Alex, the reason for the EBITDA guidance review was exactly due to the point that you mentioned. We had mentioned during the beginning of the year that we expected a 20% to 30% increase in grains. We are actually seeing something more in the order of 30% to 35% and, therefore, we have decided to review our guidance for EBITDA.

In relation to moving forward we expect third Q with prices and volumes in the export market. We expect a certain trade-down in relation to higher commodity products in the domestic market to the more competitive processed in the domestic market. We will continue with the strength of our brand to pass through prices in the domestic market. Okay? As I mentioned, we do have some lines in relation to these products coming in during the third Q. Okay? So that, we expect a certain volume growth as well in the processed and the domestic market. Okay?

But there were some factors in relation to the grain in June that had not been anticipated by the market. To name two of them -- number one, the floods in the US, which highly impacted corn and soy during June. And the closing of the Argentine market, as well. Argentina is one of the largest exporters of soy, which also influenced at some point the prices of this commodity in the international markets.

I think I've answered your questions.

Okay. So basically, second half should be similar to first half, or it's going to be more of like we just kind of have to see how the volume pricing versus the grain pressures come through in the quarter, I guess, in 3Q.

That's basically it. And there's one other variable that we haven't mentioned which is currency. Okay? So, we have seen a pressure in relation to the dollar-real. We've seen the dollar-real work at 1.57, actually. And this is another component given that 50% of our revenues are export based. Okay?

So, we might -- I mean, and during the third Q it's exactly what you've mentioned. We have to be attentive to these variables. And the fourth Q historically is the best quarter for the Company given the seasonality, the better prices, the better of the mix.

Okay. That's helpful. Thank you.

Thank you.

Our next question will come from Julia Rizzo from Itau Asset. Please go ahead.

Thank you. Good morning, everyone. I have two questions. The first one, I would like to understand better the reasoning behind changing the PNs for the ONs for the executive stock option plan? Or if always it has been like that or if now you're giving the options to the employees to have ONs instead of only PNs.

Okay. The decision was took in the Board of the Company because we have in the -- we have a guarantee of our stock option which is shares in the Company, power of the Company. And we decided to change these shares as a guarantee, only this decision. Because we have no vote to companies, we decided to have with the guarantee vote, they could vote in shares. This is the decision (inaudible) was not to vary other issue.

(Inaudible.)

And the second question -- yes?

No. I understand better this. Always the employees had options to have ONs in the stock option plans, or that's just something you started off with PNs and now they have the option to have ONs.

In our contract we have the option to offer PNs or ONs for the employees. Is in the contract we offer stock option with the employees. We have the opportunity to offer ONs or PNs.

Oh, always been like that.

Yes.

Okay. The next question would be like if you had any hedge position for the next quarter, mostly -- I understand that most of your grain costs have already been set for the next quarter. So, if it's -- how it's going to be. If you're going to have like more servable environment in terms of COGS.

Julia, as you know, in relation to currency we have historically been very active and we do have a policy where we hedge 100% of our net exposure to currency for the three following months. And from the 3rd to the 12th months it's 50% and then it's a rolling basis. Okay?

The issue about the currency is that there has been less movement in relation to the currency during the last year. Okay? So, moving forward, we will see less gains in relation to our hedging positions in currency. That's one thing.

In relation to our grain hedges, we currently have two to three months in our hedging positions. And that is both in physical hedging and in financial hedging. Okay? But that depends on when these were done. We do have some contracts that were hedged during the -- in Chicago during the recent highs. Okay?

We can't forget that these are hedging positions. Okay? And there has been a lot of volatility in the market. We expect the volatility in relation to grains to continue moving on in the second semester. We do not expect prices to recede from where they are currently right now. But we also don't expect them to move up in a very substantial fashion either.

So, you cannot assure given the volatility that your cost of goods sold benefited with the lower grain prices for the next couple of quarters?

That they benefited or they did not benefit?

That they benefit.

Well, we do have -- I mean, as I mentioned, there were contracts that were done during the crisis in the US.

Okay.

Okay? So, I mean, again, there is a hedging position. The corn in the US hit USD $7.00 per bushel. It's currently -- and then it went down again to USD $5.70. It's currently at USD $6.00. So, there are -- I mean, we were carrying some contracts at higher levels.

Okay.

Okay?

Okay. Thank you very much.

Our next question will come from Pedro Herrera from HSBC. Please go ahead.

Hi. Yes. Actually, my question was regarding the grains, your guidance changes and your outlook for the grain going forward and they have been answered. Thank you.

Thank you, Pedro.

Thank you.

(OPERATOR INSTRUCTIONS.) We have a question from Eric Ollom from ING. Please go ahead.

Hi. I just have a question on the bank and how that will be consolidated. Will you consolidate the individual accounts and we'll see a big increase in receivables, etc., or will it be consolidated basically as an equity investment on your balance sheet?

Yes. We are consolidated the results in Sadia, in Sadia balance sheet, in Sadia financial demonstration. And all operations of the bank will be disclosure, clear, separately and, after that, consolidated.

Okay. So, we would see a big increase in debt and receivables on the consolidated numbers as opposed to treating it as an equity investment. I mean, is that correct?

Yes, you're correct.

Okay. Okay. Thank you.

Thank you.

(OPERATOR INSTRUCTIONS.) This concludes today's question-and-answer session. Mr. Welson, at this time you may proceed with your closing statement.

Thank you very much for everybody. It was a very strong scenario but we think that the results were positive for us. We will have the conference with the Brazilian people today in (inaudible) Hotel at 6:00. (Inaudible) number is 658. Thank you very much.

That does conclude our Sadia second quarter 2008 earnings results conference for today. Thank you very much for your participation. You may now disconnect.