BRF SA (BRFS) 2017 Q1 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to BRF S.A. Conference Call to discuss First Quarter 2017 Earnings.

This conference call is being transmitted via webcast in our website, www.brf-br.com/ir.

(Operator Instructions) Forward-looking statements related to the company's businesses, perspectives, projections, results and the company's growth potential are provisions based on expectations of the management as to the future of the company.

These expectations are highly dependent on market changes, economic conditions of the country and the sector and international markets, thus, are subject to changes.

As a reminder, this conference is being recorded.

This conference will be presented by Mr. Pedro Faria, Global Chief Executive, Financial and Investor Relations Officer.

We now hand the call over to Mr. Pedro Faria, who will begin the conference call.

Mr. Pedro, you may begin.

Good morning, ladies and gentlemen.

Thank you all for being with us today.

We are here to discuss with you, BRF first quarter results.

We're not happy with the results presented today, as we think they are below what is the potential of the company.

Since the beginning of the year, we have been working hard to transform our business model into a more integrated and transversal one.

As we've told you before, we're working with BCG and with the Board to implement the new management structure and we have been doing some changes in things since then.

This end of the quarter we're especially challenged to the second BRF, who to all that happened due to Weak Flesh Operation.

Despite all the difficulties and challenges created because of that, I think this was also emblematic for BRF.

When I look back today, I feel very proud for the fast response that the company gave and even more than that for the mobilization created internally.

This mobilization was connecting all layers inside the company from senior management to the plant operators, and what made me most happy was the fact that the response that we gave to our consumers came straight from our employees and not from a marketing agency.

They have flooded the social media with pictures of their own refrigerators, showing with proud the product that they feed their families that are the same ones they produce with the quality [introduction] that every BRF consumer deserves.

Besides that, we also have a tremendous support from our chain, from suppliers, retailers and also most specially, our outgrowers.

For me, this is priceless and show all the strength and connections that BRF has.

Obviously, this episode will leave profound scars.

It's worth to mention that for the first quarter, we reported the very first and direct impacts of this effort to the tune of BRL 40 million coming from direct expenses incurred through the end of the quarter such as marketing, communication expenses, lawyers.

Besides that, we lost around 15,000 tons that were not shipped due to that.

We are still running a deep analysis to quantify the total impact, so we should expect a higher number in Q2.

After almost 2 months, I think we can say we are through the worst moments in a very satisfactory way.

I'm sure BRF will rise from this event from stronger and more united and with much more robust controls and processes, to guarantee the quality of products and the respect we have for our consumers.

In Brazil, we're starting to see some signs that consumption might be stabilized.

For the first time since the end of 2015, we reported annual growth in our processed food volumes, and at the same time, price increases.

If you take a close look to our main channels such as key account or the traditional channel, the total volume growth is 7.5% and 6%, respectively.

The increasing volumes, together with our efforts to improve our supply chain planning, allowed us to reduce significantly the discount for shelf life, or FIFO as we call it.

That dropped 26% versus the 2016 average.

And today, we are back to 2014 levels.

With all of that, our profitability per kilo starting to come back to better levels, much more adequate.

Despite that, the same integrated planning in Brazil is also bringing a significant reduction in our logistic costs.

Together with our ZBB efforts, allow us to reduce our SG&A in 7.4% year-on-year, even with the higher volumes sold.

In that context, Leonardo Byrro assumes, nearly created this vice presidency of supply with the mission of implementing those initiatives in a global and centralized way, he will also be responsible for all the procurement grains purchase strategy.

This was one of the most important change that we did in our business model.

I would like to take the opportunity also to welcome Alexandre Almeida, who joined us from Itambé, where he was a CEO.

He brings a lot of experience to our operation and his mission will be to continue the good work made in developing our business model, as he now leads our Brazil operations.

Despite the improvements in the Brazilian market, the international markets are still in a difficult conjunctural moment.

The effect of the real strengthening almost 5%, together with the grain costs still high in a few regions, did not allow Brazil to gain back its competitiveness.

Additionally, OneFoods were not able to reduce our inventories yet to excess supply of grillers coming from the increasing local production in [Mineiros] and from the volumes coming from smaller players in Brazil.

That kept direct in volumes to markets that have a shorter production cycle, such as the Middle East, trying to mitigate a more restrictive access to credit and working capital.

Due to that, our profitability in the region was below what you would like.

We keep focusing in the structural pillars of our operation.

Our market strength in the region is growing in all Gulf countries, and we closed the quarter with the annual growth of 4 percentage points in total share.

In Saudi, our main market, whose annual gain was even more emblematic at 5.4 percentage points.

Equally, we grew our share in all categories.

For instance, our current share in chicken parts is 64.2%.

This represents an annual growth of 6.4%.

Looking forward, we expect to see profitability improving from the second half as grain prices keep going in a positive direction and poultry production Brazil showing signs of contraction.

Moving to the financial side.

We ended the quarter with a very solid cash position of BRL 8.1 billion.

While managing our cash in a very conservative way and after weak flesh, this was even enhanced.

Not only we're strengthening our cash position, but also doing a very restrictive administration of expenses in CapEx during the period.

Our average reached 4.2x EBITDA, which is much too high than we would like.

We had a small increase in our net debt, but the EBITDA is the main driver of the increase in the leverage ratio.

We should see an organic deleverage coming from the improvement of our operational results, especially in the second half of the year, moving towards at 2.5x level, in which we feel a lot more comfortable; be very restrictive regarding new M&A, dividends, buy-backs.

We'll look very closely our working capital on CapEx.

This should be way below 2016.

Investment grade is very important and strategic for BRF.

As I told in the beginning, we are not satisfied with the results presented today.

But we keep working very hard to put BRF back on track, to regain its profitability and the long-term value that we all believe.

I will now like to open for Q&A.

Thank you very much.

(Operator Instructions) Our first question comes from Lauren Torres, UBS.

Pedro, I think, I've posed this question to you before.

But with another tough quarter behind you and it seems like directionally, a lot of the bigger headwinds that we've seen are dissipating or at least, are expected to dissipate in the second half of the year.

Could you separate for us a bit those factors and how we should think about the improvements, with cost getting better and the Weak Flesh Operation managed well and some other things working, not against you, but turning for the better in the second half.

How we should think about what that improvement could mean.

But I think more importantly, I'm just looking at some of the structural changes you've made in the company.

Once these headwinds dissipate and these structural changes are put into place, how are you thinking about the longer-term progression?

I know this is a very general question, I'm just trying to get your sense of separating what's tangible now versus what's intangible, and changes that you're making to get you to better numbers going forward?

In a way, you have encapsulated the 3 main drivers of how much we've been working and how hard the team has been working.

Because these are effectively 3 dimensions that are intertwined, and this is why I see the first quarter as kind of a transition point.

And I hope the second will prove even more so.

From I'd say conjunctural cyclical perspective, of course, I think everyone kind of agrees clouds are dissipating.

But we have, I would call it an inventory issue, right?

We're still seeing some of the high costs from the past still impacting our cost structures.

If we were to start the company today, then we would be buying grains and raw materials at spot price and that will make a big difference.

So I think, there is an inventory issue.

I think we need a bit of patience and few those trends that we can basically already identified, they start to play out in terms of results.

So, of course, I think, this is kind of a more into the second half.

Weak Flesh, of course, came out of nowhere.

This was, I think, quite a relevant episode for us, as we mentioned.

I think as I said in the call, in Portuguese, I'm extremely proud to see how the team has handled what could have been a much worse situation.

And that, I think, talks a lot about how we see the world, our transparency thoughts, stakeholders and our willingness to improve processes, beef compliance, beef quality.

I cannot be so sure that the main thing is behind us because there is a second or the third order impact.

We're seeing that quite vividly, in terms of the Mineiros situation.

And the intention is now we have to process also some bargaining power that was shifted from sellers to buyers, even in the context of markets generally getting better.

So I think, its -- unfortunately, the year of 2017, will be marked by impacts of the Weak Flesh.

But I think longer-term, what you'll see is a much more unified, robust company that has been given the ability to improve the way we operate.

And thirdly, and this is what makes this moment so special, we already signaling to the market the need to change.

And we've been quite busy also promoting that change, which I would say, goes in the way of creating a much more transversal collaborative way of operating, eliminating unnecessary degrees of decentralization, making our team more robust.

I am extremely pleased to have Alexandre participate in our call, having joined a few months back.

Also, the strengthening of our supply, vice presidency, which we start to have -- and Leonardo and the team looking quite carefully into how we think through issues, pertaining to the harmony between our value chain and the market.

So these are kind of transformation processes that I'd say, of course, Weak Flesh did not help in the sense that it kind of divert the business attention.

But what I'm seeing going forward is this very important opportunity for convergence.

I think it's something I have not stressed in the other call, very emblematic to me, a few weeks back.

We have our shareholder's meeting, which we have a record turnout.

And all of the matters that were presented by the management got approved by a significant majority that also talks a lot about this moment, in which all of the stakeholders are giving a big vote of confidence to the company.

So generally speaking and I know your question was a general one, I believe that if we manage well those 3 factors, probably we will see the company in much better shape.

But I expect this to happen in a gradual, robust and consistent manner going forward.

Next question comes from Ravi Jain, HSBC.

I have a quick question on the international market, specifically, OneFoods.

How much of the weakness do you think is more cyclical and do you see any structural changes in terms of your competitors?

Could you give us some color on the initiatives that you are taking to improve profitability in those markets, in a more longer-term horizon in addition input costs that we're expecting in the second half of the year?

Well, thank you, Ravi.

I think the OneFoods case is an important one.

We stress the fact that this was part of the results where we were least happy in the first quarter.

Of course, a number of conjunctional issues.

This is a market that is conjunctionally oversupplied, and that I think, talks about not only supply dynamics.

and we know that there has been more aggressive stance from producers, both Brazilian and also local.

But some weakness in demand, which I think, talks about the moment of Saudi Arabia and a few other markets.

Of course, it did not have the fact that early in January, a big tax increase on imports were passed and we were not able to pass through those tax increases completely, and they also caused some pain for us.

In terms of the competitive situation, Middle East, we see a more fierce competition.

This is coming, I think, conjunctionally from Brazilian players as they revert part of the production of broilers into grillers, which has a much lower cash cycle, and therefore, is a good source of funds in a scenario of credit limitations.

But also we've seen local producers, also French competition, trying to take advantage, not only of the Weak Flesh, but perceived weakness from Brazilian producers.

And I think the overall response BRF has given, given how meaningful, how important it is long-term our presence in those markets.

I think we really pushed into our strength.

We gained a lot of market share in the quarter.

We make sure that the we didn't give any space and we continue to command a leadership position in all of those markets.

When you think about initiatives, that for the long run, they can improve profitability.

I think a lot of it is already shown in the first quarter.

You see our emphasis in growing our business of poultry parts, we recently had a phenomenal launch of IQF, 8 cuts, 9 cuts, something that we're very excited with because this is driving the category from whole poultry to poultry parts, where I think, we are way ahead in terms of competition.

We're also seeing our strengthening position in some of the FPP categories, again, supported by successful launches in the first -- in the fourth quarter and first quarter.

We also see a very important opportunity in terms of GPM efficiencies, as we call it, and also even further strengthening our footprint in the region, in that, we are excited with the coming closing of the Banvit transaction later this month, which is a platform that would put us on a leadership position, in what I think, is the most significant market for Halal foods.

So we continue to be very positive in the long term with OneFoods.

But the first quarter was marked by a number of conjunctional factors as you rightly point out, as well as our response in trying to not to consider a lot of space that was hardly conquered in the last few years.

Your next question comes from Alex Robarts, Citi Bank.

I wanted to just go back to the Middle East again.

And sorry for kind of talking about the pace of -- and asking about the pace of profit recovery.

But, I mean, clearly, it's the key point right now in the short term.

And I'm wondering what is the role of the macro in your numbers.

In other words, do you think a stronger currency -- I'm sorry, the FX and lower grain prices are going to play a little role, a meaningful role in this margin recovery?

Secondly, who did you get market share from, local producers, other exporters?

If you could kind of give us the breakdown.

And thirdly, on the Banvit integration, do you think that there could be some meaningful synergies as you think about that integration in the second half?

I think you are rightly pointing to some very relevant factors here.

So basically, when you think about our business in the Middle East, still the majority of this coming from our presence in very polymastic categories like whole poultry.

And this is where, I think, we've seen most pressure, and more specifically, even in across all the channels, but also in the wholesale.

That, I think, talks a lot about, and you can probably look back at the data, as a very I would say profits in which Brazilian, especially small Brazilian producers, they kind of flooded the market, I think in search of fastest cash conversion and the ability to generate cash.

And that of course, create a bit of noise in the market.

Weak Flesh doesn't help because it was perceived, together with the tax increase in Saudi, as an opportunity for local production to strengthen its position.

And I think this is more of a structural fact that we have to take into account, how do we effectively respond to local production especially in Saudi and to local players.

I think OneFoods as an investment story is pretty much a good and effective answer of us migrating towards being much more of a local player than just an import or export, so this is important.

Then you are right about pointing to synergies in boundaries as we are progressing into the closing of the transaction.

One of the areas we are more excited is precisely the opportunity to bring goods from Turkey into the markets in Middle East, especially as you go in more granular into the categories.

You see a number of interesting opportunities in poultry parts, calibrated breasts, a number of things also on the FPP front, where I think Turkey has already been kind of a long-term supplier into the region.

So those opportunities, they have, I think, a double-edge for us.

Not only they help strengthen our position in the Middle East, but they also help us also play the Turkey market from a different perspective, having the 2 hands to play, both the exportability or significantly stronger exportability as well as the local market, which is very interesting.

So I think, the first quarter is one that we feel not very satisfied with results.

I only wonder where other players are, kind of in terms of margins and how sustainable that is, in this.

We've seen in the last couple of months, shipments from Brazil, which were way below historical norm.

But we need this whole thing to play out.

So I'm assuming that you'll see meaningful recovery towards the third quarter or fourth quarter of this year, of what I think, is strategically a very compelling story, which remains intact, in our perspective.

The next question comes from Gustavo Gregori, Bradesco.

My question is regarding dividend and interest on owned capital.

Considering the leverage that BRF posted in first Q and the negative carry that the last 2 quarters weak results are going to have on the leverage ratios, should we assume that BRF is not going to pay any dividends or interest in owned capital this year?

Well, let me tackle part of the question, I also relate to, also here Gustavo.

I think what we are trying to do is to, and I think the first quarter shows that is to implement even stronger discipline around our uses of cash.

So you see the favorable trends in OpEx.

CapEx also came in below our original guidance and we're trying to be very strict, even in the absence of Weak Flesh, strengthening our position in terms of how we're thinking about expenditures in general and also working capital.

As you're implying, dividends and interest on owned capital, this is something that is being debated in the Board.

I don't think your inference is right because we have to manage our expectations from all the stakeholders.

However, I think you can assume us to really be very conscientious about the high leverage ratio we finding to, trying to drive this to much more normalized levels of 2.5x, as I think, a bit of the operational figures started to improve.

[Elso], would you like to complement?

Sure.

Thank you, Gustavo, for bringing that up.

I think definitely our leverage ratio today, we feel very uncomfortable at these levels as our target is really towards the 2.5x net-debt-to-EBITDA.

Very important to understand that this equation is twofold, right?

You have the net debt and the EBITDA of the last 12 months.

If you look at the net debt over the past 3 or 4 quarters, you're looking at BRL 11 billion to BRL 12 billion, which definitely was not the major driver of the increase in our leverage.

But the EBITDA accumulated in 12 months, that's being the major 1. So we closed the quarter below BRL 3 billion.

And as we have a different scenario and recovery of our margins and profitability over the second half, we have to expect to have this deleverage, enter into a deleverage mode pretty -- on a solid basis, as you're going to be generating more cash.

So reducing the net debt, and at the same time, increasing the denominator, which should rise against towards the 2.5x.

Just also important to mention that we don't have any financial covenant in any of our debt instruments.

So there's no acceleration here.

And I guess, the last point is, we'll continue with a very disciplined management on our cash -- cash flows being CapEx, OpEx, working capital as these are very critical and important points for us in our strategy.

Understood.

But is there a level of leverage where if you're above that, you're not going to do any dividend payments or are you guys kind of base this, kind of, on a forward-looking basis, assuming things are going to improve and then maybe anticipate the containment?

So different, again, discussions which we are in the moment having with our Board.

I don't want to imply we have a decision made in one way or the other.

But in our projections, we believe we have a good job to be done, especially in the expenses as well, as all the uses of funds.

Our next question comes Alexander (inaudible) from Bank of America.

My question is also about leverage.

It'd be helpful if you could provide a time frame of when you would reach the 2.5x net-debt-to-EBITDA target?

This is (inaudible) speaking.

I guess, it's difficult to mention the exact timing that's going to happen.

Again, the deleverage scenario will start kicking in stronger over the second half, as we start generating cash and increasing the EBITDA the past 12 months.

So they're going to go into that direction.

There are many other variables that are going to be impacting the operating performance and the deleveraging mode is going to be consistent with the recovery of the operating margins.

And then what -- I think Pedro mentioned on his presentation that this 2.5x net-debt-to-EBITDA target would be achieved in organic fashion.

So can we assume that any potential asset sales, including OneFoods, would that need to be concluded in order for you to reach this 2.5x target or does this 2.5x target include asset sales?

This is Pedro back again.

I think we are, of course, stating that our goal is to get closer to 2.5x, which is where we think structurally we should be.

We have not a precise target against time to do so.

We think we should see a meaningful progress as our operating margins start to improve in the second half.

But what I'm implying is we're looking from an organic perspective, you're right, but we're also being very conscious about alternatives that we have and OneFoods capitalization is something that is not out of the cards.

We continue to be contemplating alternatives on that front.

The next question comes from Pedro Leduc, JP Morgan.

First one, more strategic on the Middle East side.

This quarter you mentioned that market share gains disappears to have come at cost us a negative EBIT, however, in the past there was a lot of focus on reducing volumes, trying to smooth the volatility in this quarter.

It seems -- wondering if it's a change or is it due to the higher fixed cost that you have there?

And just looking forward to see your thoughts here, that will be the first question.

Pedro, as we're trying to imply, we don't see necessarily that dichotomy between share gains or margins.

But I think since the last quarter of last year, we were trying to show that we were not really to consider a lot of space for all the competitors.

We see a more intense competition in the Middle East.

And I think, we have the opportunity to continue to preserve the space that we have conquered in the past.

That does not imply that we are doing a conscious effort, in terms of pricing.

Pricing dynamics in the region, they tend to be a lot more related to supply-demand dynamics, in which we see a much more conjunctural imbalance in the market.

We think that this, at some point, will start to go away.

We're starting to see shipments for the region to come to levels which are way below historical.

We need to also think about how do we best respond to increasing competition coming from local players.

So I think, we're trying to adapt to the current scenario, but continue to be confident that the position, that we conquered as probably #1 leader in the categories in some other categories #2.

This is really a position for us to defend.

And we believe that late in the quarter -- in the second half of the year, probably a lot of the structural competitiveness from Brazilians will come to play in our favor, if we manage this in the right way.

We also have to think about the context of the tax increase in Saudi Arabia, which creates a big dislocation in the market that we are seeing now some normalization.

And then a quick follow up on the Brazil, specifically, Brazil.

But congrats on well managing the Weak Flesh scandal investigation.

It really had smaller effects on your volumes than your peers, so well done on that.

But first if you could help us understand two quick things, and how much we can consider from non-recurring costs will still spill over into 2Q [bid] inventory [out of it for] higher marketing or lowered expenses?

And from the BRL 40 million now how much we should've seen in the second quarter?

And then second, if there have been [in-charges] or any acquisitions.

If you could update on the executive (inaudible) there to support and with (inaudible) you are making, et cetera.

That will be great.

Let me take with the first question, I have our VP here with me who can answer the second part of your question.

So what we already expensed in the first quarter, the BRL 40 million, really talks about out-of-pocket expenses as we're trying to give an adequate response to our stakeholders, and of course, there was a lot of activity around communication, advertising and all other fronts.

I think the impacts of Weak Flesh on our operations, they will be mostly felt in the second quarter because, of course, having a plant like Mineiros which is a bit more than 5% of our output, it has create consequence in terms of our value chain, raw material, excess inventory, et cetera.

And we assume a scenario of stricter controls in most of the markets we operate.

And I think as a second order effect, some, by gaining power, which has been transferred to buyers, which, of course, will translate into perhaps a more gradual recovery of prices internationally.

So I think, the bulk of impact is coming from Weak Flesh, they've not been felt in the first quarter.

I think second quarter should be, I think, the biggest factor that we're going to see.

But as you rightly congratulate us, when I look back at the scenario that could have been precipitated in March '17, I think, we're navigating into, I think, a much better territory than originally anticipated.

I will relay to [Jose Roberto] so he can give you an update, as far as the process and the charges against BRF or BRF employees.

I think as usual, this is a long process.

We're facing charges against 2 of our employees.

At this moment, they are connected to bribery things like this -- that you probably read in news.

We have very highly skilled specialists working on this with us.

And at this moment, we're trying to cooperate and support the authorities the best we could.

And hopefully, we can clear up and explain everything connected to our operations.

This concludes today's question-and-answer session.

I would like to pass the floor again to Mr. Pedro Faria.

So thank you very much all of our investors, analysts, for your participation on First Quarter Results Conference Call.

I would like to emphasize how proud we are, by the way, we have effectively responded to the Weak Flesh Operation.

I think the name of the game has been transparency, trying to give an adequate structure and governance, and even operating in a way of strengthening our processes and systems.

I believe, as I said, this episode will leave some scars but it would also create the opportunity for us to emerge on a much more robust and unified way as a team and as an organization.

We firmly believe that BRF, as the sector dynamics play out will be navigating much more positive territory in the coming quarters.

And I'd like to again, to thank you for your participation.

That does conclude our BRF S.A. conference call.

Thank you very much for your participation.

Have a good day.