Orion SA (OEC) 2015 Q2 法說會逐字稿

Good morning, and welcome to the Orion Engineered Carbons Second Quarter 2015 Earnings Conference Call. Management will be utilizing a slide presentation for this call, which is available now for download on Orion Engineered Carbons' Investor Relations page, at www.OrionCarbons.com.

Today's call is being recorded, and we have allocated one hour for prepared remarks and a question-and-answer session. (Operator instructions) At this time, I would like to turn the conference over to Diana Downey, head of Investor Relations at Orion. Thank you, you may begin.

Thank you, operator. Good morning, everyone. We issued our earnings press release after the market closed yesterday, and have posted the slide presentation to the Investor Relations portion of our website at www.OrionCarbons.com. We will be referencing the slides during this call.

Today's speakers are Jack Clem, Chief Executive Officer, and Charles Herlinger, Chief Financial Officer. Before we begin, I would like to remind you that some of the comments made today, on today's call, including our financial guidance, are forward-looking statements. These statements are subject to the risks and uncertainties as described in the Company's filings with the SEC. Actual results may differ materially from those described during the call.

In addition, all forward-looking statements are made as of today, and the Company does not undertake to update any forward-looking statements based on new circumstances or revised expectations. Also, non-IFRS financial measures discussed during this call are reconciled to the most directly-comparable IFRS measures in the table attached to the press release.

I will now turn the call over to Jack Clem.

Good morning, and thank you for joining us today for our Second Quarter 2015 Earnings Conference Call. I will begin today's call by providing highlights from the second quarter, and we'll then turn the call over to our Chief Financial Officer, Charles Herlinger, who will provide more detail on our quarterly results. Finally, I will comment on the broader industry trends and our updated outlook for 2015 before opening up the lines to take your questions.

As a reminder, Orion went public in July of 2014, so we have just observed our one-year anniversary as a public company. We are very pleased with the progress we have made, both with the execution of our strategic plan, and with the financial performance we have delivered thus far. We believe we have delivered on the commitments made to our shareholders, and the broader investment community, during our IPO roadshow in 2014.

Since our launch last summer, we have strengthened our specialty black business, growing adjusted EBITDA margins for the latest quarter to 31%, from 26% at the time of the IPO, while growing global volume. We've increased rubber black margins, growing these to 14% in the latest quarter compared to 12% at the time of the IPO, while holding regional market share. We paid EUR60 million in dividends, and we've reduced leverage from 3.1 times, to 2.8 times.

Now, moving specifically to our second quarter results, we experienced solid operating results with especially-strong performance from our specialty carbon black segment, which delivered double-digit adjusted EBITDA growth. Overall profitability and cash generation were strong, despite the continuation of a volatile economic environment.

The company grew both volumes and adjusted EBITDA margins in each of our specialty and rubber carbon black businesses, and increased combined contribution margin. These results were delivered even though our rubber segment faced headwinds in the form of unfavorable feedstock cost impacts, which are distinct from the general cost movements in feedstock that are passed along to our customers.

There has also been a further decline in demand in Brazil due to the economic environment in that region. Nevertheless, we remain confident in our ability to execute our strategy of continuing to strengthen our specialty black segment while improving adjusted EBITDA margins in our rubber black segment.

Our robust cash generation supports our ability to pay strong dividends, fund our capital investments, and continue to reduce leverage. During the second quarter of 2015, we grew contribution margin by 5.7% year-over-year, while adjusted EBITDA of EUR56 million was in line with the prior year's second quarter. We continue to generate strong cash flow driven by both strong operating performance and a cash-positive reduction in working capital as a result of lower feedstock costs and effective working capital management. Our revolving cash facility remains undrawn.

We expanded adjusted EBITDA margin significantly for both the specialty carbon black and the rubber black businesses to 31.1% and 14%, respectively. Specialty benefited from volume growth, stronger contribution margin, the impact of declining feedstock prices on revenue and foreign exchange effects, while rubber black was helped by foreign exchange effects, the impact of declining feedstock prices on revenue, as well as volume growth and efficiency gains.

We anticipate adjusted EBITDA margins at this level for the rest of the year, which is ahead of our expectations in specialty, and in line with the step-wise improvements expected to level margins when we developed our business strategy.

Turning to slide 4, our volumes increased 4,600 tons from the prior year to 260,500 metric tons in the second quarter of 2015. Our specialty and carbon black volumes rose in the quarter. However, revenues decreased EUR58.9 million year-over-year due to sales price declines resulting from the pass-throughs of feedstock costs, offset by foreign exchange translation effects from a stronger US Dollar, and our increased volumes.

Despite these trends in reported revenue, our raw material costs pass-through mechanisms and fixed cost management proved to be efficient again this quarter as contribution margin, gross profit, and net income all increased.

During the past quarter and the first half of this year, we have delivered on our commitments to strengthen our specialty black segment, which had an outstanding quarter, and we remain optimistic about our ability to continue the improvements we've seen in rubber black, where these have grown volumes in line with the market while demonstrating the ability to improve EBITDA margins.

Now turning to page 5, we delivered a strong performance for the first half of 2015, growing volumes by 1.6%, expanding contribution margins by 7.1%, and growing adjusted EBITDA by 3.7% or EUR3.9 million, to EUR110 million.

I will now turn the call over to Charles, who will provide you with more detail on our performance by segment.

Thanks, Jack, and good morning, everyone. As Jack explained earlier, it was a very strong quarter for our specialty business, as you can see by turning to page 6.

Our specialty black segment volume increased by roughly 2,000 metric tons, or 4.2%, to 54,700 tons in the second quarter 2015, from 52,500 tons in the prior year. This increase in volume reflects increased demand in Europe and Asia-Pacific. Adjusted EBITDA for specialty carbon black segment increased by 11.9%, to EUR30 million in the second quarter 2015, compared to EUR26.8 million in the prior year.

Adjusted EBITDA margin increased significantly to 31.1% from 25.9% in the prior year period. The strength in our adjusted EBITDA margin reflects improved profitability, but also is enhanced by the effect of the decline in feedstock costs on revenue.

Turning to page 7, our rubber carbon black segment volume increased by 2,400 tons or 1.2%, to 205,800 tons in the second quarter of 2015, from 203,400 tons in the prior year. Growth is due to increased demand in Europe and Asia-Pacific, which was upset by significantly weaker demand in Brazil due to worsening economic conditions.

Adjusted EBITDA of the rubber carbon black segment decreased by EUR3.2 million to EUR25.9 million in the second quarter 2015, reflecting gross profit development, taking into account negative foreign exchange translation impacts and below-margin fixed costs, and the elimination of changes in depreciation.

Adjusted EBITDA margin grew by 170 basis points to 14% compared to 12.3% in the prior year period, reflecting the effects of lower feedstock costs on sales revenue.

Moving now to page 8, I will provide an update on our balance sheet and cash flows. Cash inflows from operating activities in the quarter amounted to EUR47.2 million, consisting of a consolidated profit for the period of EUR14.6 million, adjusted for depreciation and amortization at EUR17.8 million, excluding finance costs of EUR13.3 million, impacting net income.

Net working capital totaled EUR198.2 million as of June 30, 2015, compared to EUR203.7 million as of March 31, 2015. Days of net working capital ended the quarter at 64 days, down 1 day from the prior quarter.

Cash outflows from investing activities in the second quarter of 2015 amounted to EUR17.5 million, consisting of expenditure improvements primarily in the manufacturing network, throughout the production system, which is in line with our expectations for the full year. Cash outflows for financing activities in the second quarter amounted to EUR34.2 million, comprised primarily of two dividend payments of EUR10 million each, regular interest payments of EUR9.1 million, and regular debt repayments of EUR1.8 million.

As of June 30, 2015, the Company had cash and cash equivalents of EUR113 million, which represents an increase of EUR42.5 million from December 31, 2014. This increase in 2015 continues to be driven by strong operational performance, and a reduction of working capital of EUR29.7 million.

The Company's non-current gross indebtedness as of June 30, 2015, was EUR706.6 million. Net indebtedness is EUR600.6 million, which represents a 2.8 times LTM EBITDA multiple.

I will now turn the call back to Jack, who will provide some additional comments on our key markets and geographies, and then we'll finish up with the outlook.

Thank you, Charles. Referring to slides 9 and 10, North America continues to be a solid market for Orion, and we believe it will strengthen even more as we move through the year and into 2016. There's been a reduction in imported Chinese tires, which presents an opportunity for demand to pick up in North America for rubber blacks. Specialty black margins in North America strengthened in the second quarter as mix improved and we benefited from reduced raw material costs, as raw material prices dropped.

In Europe, our rubber black business witnessed stronger demand as that economy continues to recover, in spite of concerns about Greece. Further, our specialty business also experienced growth in the quarter with improved margins and higher demand, both from Europe and from global markets.

Our Asia rubber black business concentrated in Korea, performed very well again this quarter. We continue to improve operating efficiencies as we commission new equipment to deliver higher feedstock yields. The Asian specialty carbon black business saw very strong growth, also with better margins through the mix and increased sales penetration.

The South American economy has worsened, eroding rubber black demand and reducing our volumes in the region. Unfortunately, we do not see any signs of this improving in 2015. I would like you to keep in mind that our exposure here is fairly low, so it has not materially affected our business so far.

While the South African economy still remains weak, our performance there was good last quarter due to initiatives to increase productivity and some uptick in demand by the local tire producers.

As you consider the full year of 2015, please turn to page 11. Consistent with our ability to execute an operational and strategic plan in this current macro outlook, we maintain our full-year adjusted EBITDA guidance of EUR210 million to EUR225 million for 2015. We expect to continue to experience the negative feedstock cost developments referenced earlier that have impacted our global carbon black segment, although we have just announced a price increase to mitigate this impact to the extent possible.

While maintaining the financial guidance for 2015 in the range we set last year, our current expectation is to be at the midpoint of the range. We expect to continue generating strong free cash flows and paying quarterly dividends in 2015 at our current level.

As you can see, we're pleased at the performance of the lines and remain optimistic about our future. We wish to thank all of our employees for their hard work, and shareholders for their continued support.

With that, operator, please open up the lines for questions.

(Operator instructions) Our first question is coming from the line of Ivan Marcuse with KeyBanc Capital Markets. Please proceed with your question.

All right, thanks for taking my questions. The first one is, that on the feedstock increases in terms of outside of the oil, could you explain sort of the dynamics that are going, there? And then also, on top of that, your competitor has made a public announcement that they're trying to raise prices in various regions as a result of the feedstock, that it sounds like they're having the same issue. Is that something that you are also trying to get pushed through?

Good morning Ivan, it's Jack. Good to hear from you. It's -- the feedstock issue, I think we went through that in some of our previous comments.

There are price differences that occur periodically between that price that we pay for our feedstock and that which we pass along on our customers, [these] published indices that are out there. Often times, the indices can work positive/negative. This particular year, we've seen an especially difficult impact from a change in the pricing that we pay and that which we pass along to our customers.

Some of this is caused by just dynamics out of the US Gulf Coast, and to some extent, the US West Coast, of material moving out of North America, into the Asia-Pacific and European region. There's been a particular upsurge in demand for this material out of the US. At the same time, the supply of the quality of that material used to make carbon black has diminished, just simply because some of the production slates in the United States have changed, as the US has gone to more domestic crude and less of the heavier material imported into the US.

So, you've got a bit of constraint on the supply side, a surge in demand for material moving out of the US, primarily to Asia-Pacific but also to some extent Europe, which has pressured this particular material and created this offset in price that we've mentioned in our publications.

We released a press release yesterday, in fact, announcing a price increase to deal with some of this, specifically targeted at that, as well. The announcement's out there, it's on our website. It's just in summary, on September 15, we intend to raise prices to the extent possible, or where we don't have already agreed-upon contracts between 6% to 8% globally, with the exception of South America where the figure will be higher just simply because of some of the currency fluctuations in that region.

Okay great, thanks for the additional detail. My next question would be, and your specialty black continues to be very strong. Would you, assuming feedstock costs stay where they're at, or who knows -- but let's say they stay at this level, would you anticipate that you'd be able to, there's all of the -- you know, I guess improving next, you'd see that margin slowly continue to rise higher? Or how do you think about this business and sort of the potential looking forward down to the next you know, six to twelve months?

It's a forward-looking statement, Ivan. You know we're going to shy away from that. I can tell you that up until now, through the second quarter, we've been able to hold on to some of these margins as oil has relaxed like that.

You know, it's our anticipation that what we've done in the past, we think we can continue to do in the future. But, beyond that, I think I'd be speculative to talk about what happens in the next few quarters in that regard.

Great, and my last question, and I'll jump back in the queue. And your working capital reduction of about EUR29 million that you talked about, how much would you say -- I don't know if it's possible to break out, but is oil versus sort of your operational improvements? Meaning, if oil were to rise or whatever, and a certain amount of working capital will come back in, but as you've been improving the operations I would imagine that some of those working capital improvement may be permanent. Is there any way to sort of break that out, or think about that going forward?

Hi, Charles here. Yes, the three elements are the oil factor, there's the actual reduction in levels of working capital, and then there's FX effects as well. But you know, you are getting into sort of treaties on the subject, and that is the majority of what we've experienced this year has been oil-related, clearly, with a steep decline in oil price. You are right, though, that we have improved our working capital management and so some of that will be retained should oil go back up to where it was.

So, that's why in the frequently-asked questions, we give some metrics around what we expect to happen to working capital for a change in the oil price. But to be -- the bottom line is, over half of what we've done, had in working capital improvement is oil-related, and then a portion of the rest is due to improved operational processes.

Great, thanks a lot, you're doing a nice job.

Thanks, Ivan.

Thank you. Our next question is coming from the line of Jeff Zekauskas with JPMorgan, please proceed with your question.

Hi, good morning.

Good morning, Jeff.

Hi. So, what raw material is going up for you? I mean, oil prices obviously have come off pretty sharply since the end of the second quarter, and you know, when you look at published resid prices they seem to be going lower.

Jeff, I mean, all that's the case. Petroleum prices have fallen around the globe. Resid prices 3%, 1%, those all fall, and as you know as they rise and fall, we pass those along in our index contracts to our customers. What's changed is the difference between the index that you see in these published reports, and the actual price paid, and that index is what governs our sales contracts.

So, as that index moves up and down, we pass that along, monthly for the most part, to our customers whether it's up or down. But sometimes, there can be a basic difference between what the index shows and what we actually pay, and that's the basis difference, to use the that term, which has actually been inflated over the last several months.

It really began to get severe, for us at least, around the end of the first quarter of last year, not really affecting it too much until now, this half-year. When that occurred, it just became -- so we can't, we needed to seek some relief in terms of base price. And that's why we announced the increase that we announced yesterday.

Can you talk a little bit about either carbon black demand globally, or rubber black demand globally, in that your overall volumes are up a little bit more than 1%? And obviously, some of your competitors have lost a lot of market share. So, it doesn't -- unless Chinese producers are really picking up a lot of share in the scheme of things, it seems that the rate of growth of the industry is pretty slow this year, and under those circumstances why would you be optimistic about being able to capture some of these price adjustments that you want to capture?

Well, industry utilization rates are actually pretty high, Jeff. I mean, there hasn't been capacity added, and you have to speak about it more regionally where we operate. That's why we can be fairly optimistic about that.

As we look at North America, we know North America is running very tight right now. We can feel it out there. And you know what our own utilization rates are, they're in the 90% range for [our] assets.

In Europe, interestingly enough, our European assets are running fairly tight as well. Not quite as tight as United States, but we can feel it there also, and while we don't have any visibility on our competitive utilization rates, you can feel the tightness in the market.

So, when we look at Europe, we look at the US, we feel that utilization rate. Korea seems to be running fairly nicely. It's not quite as strong as the other, but it's running at more or less a level that we've seen in the past, you know, the mid-80s, that type of thing, which is sufficient for that particular market. The one that we have, South Africa, I'll mention that one as well. That's actually seen quite a nice uptick as well. Some of the producers down there I think have taken some initiatives -- tire producers, rather -- have taken some initiatives to step up some of their volume. So, it's been a bit of a pleasant surprise for us.

Where we see low utilization rates is South America, and as mentioned, our exposure there is pretty low, but you know. For us, we're talking 70s, kind of 70s percent, middle 70s or so, in that region.

So, I mean, when you take all of that out and you take all that and look at it in terms of where our base is, and utilization rates in our regions, that's why we can be somewhat optimistic about it.

And then lastly, the CapEx in the quarter was I think EUR17.5 million. Why did CapEx spike up so much in the second quarter, and why should it be so much lower going forward?

CapEx can be pretty lumpy, you know. It depends on the spending of a particular project, and typically you don't have what I consider an even flow on CapEx. Sometimes it's a strong fourth quarter, sometimes it happens in other quarters. So, I think it's just lumpiness associated with that. I don't -- Charles, if you have --

No, that's right. You know, as you would expect Jeff, we try to delay payments until we're sure projects are done, and that causes the lumpiness. That's the driver.

Okay great, thank you so much.

Thank you. (Operator instructions) Our next question is coming from the line of John Roberts with UBS. Please proceed with your question. Mr. Roberts, your line is live. You may proceed with your questions.

Thank you, another nice quarter, folks. Can you hear me now?

Yes, John.

Hi, John.

Hear you fine, thanks.

I believe you source some of your raw materials from the steel industry. Is the weakness in production among steel producers contributing to that raw material tightness?

Not really. We do source some of that, that's coal-based material. That's largely an Asia phenomenon but we also take some of that material outside of Asia. But this particular phenomenon that we talked about a little bit earlier is driven more by fluid cracking slurry oil, produced from the US refiners, the petroleum refiners.

Got it. Does the Board review the dividend at every meeting, or would it be reviewed at the anniversary from when you initiated it? And would we expect the dividend to move with earnings growth, or are you more focused on debt reduction here that it might -- dividend increases might lag the earnings?

The Board tends to review the dividend, John, towards the anniversary date. I'd say that's probably the best way of putting it.

In terms of what we sort of measure it on, we are getting to the first year, to the under -- you know, the first calendar year post-IPO. The target we've set for the dividend for this year we've announced, it's four quarterly payments of EUR10 (sic) each -- EUR10 million each, and we see it's in line with that review policy from the Board. We'll see how the year develops, and how the balance of cash remains.

We're just trying to balance the goal that we've talked about, of reducing our leverage from above 3 when we started out towards 2.5 times. And it's that decision and that balancing act, if you'd like, will be something we probably look at with the Board in the last quarter of this year, last calendar quarter of this year.

All right, thank you.

Thank you. Our next question is a follow-up coming from the line of Jeff Zekauskas with JPMorgan. Please proceed with your question.

Thanks. Can you talk about the benefits of currency in the quarter-end for the first half on your income statement?

Yes. Let me talk about it at the EBITDA level, simply because you know, if you look at kind of future margins, they'll have the fixed cost impact and FX and so on and so forth.

So, at the EBITDA level, interestingly, the impacts are very similar in the second quarter as they were in the first quarter of 2015, meaning that in the second quarter we had an overall -- at the EBITDA, adjusted EBITDA level, we had a benefit of about EUR5.5 million of FX benefit at that level, which was very close to the amount we had in the first quarter. So, for the half year we're at around just about bang-on EUR11 million of benefit for the half year.

And interestingly, the dynamic, Jeff, that we talked about in the first quarter has essentially repeated itself in the second quarter in that the differential that we've been talking about early on in this call that Jack addressed, with that a similar order of magnitude overall as a negative factor, offsetting these FX positive gains. And that is the case with Q2 of 2015, it's the case for Q1 of 2015, and obviously for the half-year 2015 it's the case.

And then lastly, what are the carbon black utilization rates in the United States, currently, for the industry, as best as you can tell?

Jeff, I wouldn't comment on the industry other than to say that, as I've said a little bit earlier, I think it's running pretty tight this week. We have that feel from customer demand, but our own assets right now are running in the 90% range.

Do you think the industry is running in the US in the 80s or in the 90s?

I'd say in the high 80s.

High 80s, okay great, thank you so much.

Thank you. Our next question is a follow-up coming from the line of Ivan Marcuse with KeyBanc Capital Markets. Please proceed with your question.

Right, this is a quick question. In terms of seasonality in the back half, is there anything to sort of think about in terms of the quarters, or is it pretty much [even around] distributors historically?

Now, a similar pattern to prior years, the only thing we'd point out as we've done before, and that's December tends to be a short month for the holiday period, and that has a slight -- somewhat of an impact on the last quarter of the year. But other than that, those I think are the main -- is the main factor we certainly see, and there's nothing particular we'd point out this year that differs from prior years, at least at the moment.

Thanks, and then if you were to look -- your Korean business continues to do well, I mean, and there's -- we've all heard that China is slowing down and there's a lot of capacity over there. Is there any risk, or have you seen any sort of imports into Korea from China or any other regions where maybe they're trying to place some volume?

There is Chinese material in Korea. I don't know the exact number, but we're talking about something like maybe, call it 10%, plus/minus. Maybe a little bit higher. Call it 10% to 15% of the market in rubber blacks, and it's typically the lower end commodities style rubber blacks.

But right now, I mean, the Korean facilities are competitive against those, so they've taken the position I think, our producers typically, just like to have additional sources, like to have additional options. But in terms of an increase, we haven't seen an increase this year with respect to carbon black penetration into Korea. It's been fairly flat.

Okay, then my last question, or my (inaudible). If you look at your SG&A and your R&D, do you expect to sort of maintain the same level as we saw in the first half, in the second half?

Yes, essentially so. I mean, FX has a bit of an impact, but assuming currency around the same levels, yes.

Okay. Thanks for taking my questions.

Thank you.

Thank you. Our next question is coming from the line of Edlain Rodriguez with UBS, please proceed with your question.

Thank you. Good morning, guys. Just one quick question, a follow-up on China. With your softness in China now, how does that impact the relationship with your joint venture partner? Does it make it easier or harder for you to really gain control of the venture?

Of course we don't have a joint venture partner in China. That's a joint venture currently, as you know, between Evonik, and the Chinese state-owned enterprise called JFIC. The particular conditions in China right now, we don't see are having any impact at all on these ongoing negotiations that we've got in order to take that facility back into our fold.

Okay, that's fine, and just a quick update on the status of the EPA negotiations and what's going on there, if you can update us?

Sure. I mean, our negotiations continue. We think we've made some progress with the EPA. We think there's been some developments there. We've also disclosed in our filings a lot of information about that.

But I would comment beyond just what I said with respect, I think, to some of the progress that we've made with the EPA. There have been two of the suppliers in the industry, two have actually settled, and probably news well-known, that's Cabot and Continental. We continue our settlement negotiations, and as far as we can tell the other two suppliers continue their negotiations as well with the EPA.

Okay. Thank you very much.

(Operator instructions) It appears there are no further questions at this time, so I'd like to turn the floor back over to Mr. Clem for any additional concluding comments.

Okay, well, we thank everybody for taking the time on this August summer day, on Friday, to listen to our story about Orion Engineered Carbons. As you can tell, we're satisfied with this past quarter, we're satisfied with the first half of this year, and satisfied actually as a first full year as a public company.

And with that, I'd like to just say thank you for taking your time, and we appreciate the time and attention you've given us. Great questions, and we look forward to speaking with you next quarter. Thank you.

Thank you very much.

Thank you. Ladies and gentlemen, this does conclude today's teleconference. We thank you for your participation and you may disconnect your lines at this time.