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Operator
Good morning, ladies and gentlemen.
Thank you for standing by.
Welcome to the Tenaris S.A. first quarter 2016 earnings conference call.
(Operator Instructions)
And now, I would like to welcome your host for today's conference, Mr. Giovanni Sardagna, Investor Relations Director.
Please go ahead.
Giovanni Sardagna - IR Director
Thank you, Carmen, and welcome to Tenaris' 2016 first quarter conference call.
Before we start, I would like to remind you that during this conference call we will be discussing forward-looking information and that our actual results may vary from those expressed or implied during this call.
With me on the call today are Paolo Rocca, our Chairman and CEO; Guillermo Vogel, Vice President of Finance and member of our Board of Directors; Edgardo Carlos, our Chief Financial Officer; German Cura, Managing Director of our North American operations; and Gabriel Podskubka, Managing Director of our Eastern Hemisphere operations.
Before passing over the call to Paolo for his opening remarks, I would like to briefly comment our quarterly results.
During the first quarter of 2016, sales declined 44% compared to the corresponding quarter of last year and 11% sequentially, as they continued to be negatively affected by the ongoing decline in drilling activity, inventory adjustments in the United States, and declining selling prices.
Our quarterly EBITDA, at $205 million, was significantly lower than the corresponding quarter of 2015 and 8% lower sequentially.
However, our EBITDA margin at over 16% increased slightly sequentially due to lower selling, general, and administrative expenses.
During the quarter, we recorded $12 million of severance charges to further adjust the workforce to the adverse market conditions.
Our EBITDA margin without these severance charges would have been 17%.
During the quarter, net income returned to a positive level, reflecting the improved operating results, a positive contribution from non-consolidated companies, and the lower tax charges.
Average selling prices in our tubes operating segment were down 13% compared to the corresponding quarter of last year, but they were flat sequentially.
[They] were supported by sales of coating services for offshore line pipe projects in sub-Saharan Africa.
During the quarter, cash provided by operating activities was $309 million, allowing us to reach a net cash position of $1.9 billion at the end of this quarter.
Now, I will ask Paolo to say a few words before we open the call to questions.
Paolo Rocca - Chairman & CEO
Thank you, Giovanni, and good morning to all of you.
Even in this extremely adverse market environment, Tenaris is managing to achieve important goals.
I will highlight some examples.
Our offshore line pipe business, where we have established an important level of differentiation, is performing strongly.
This quarter, we concentrated a high level of shipments for the Kaombo project in sub-Saharan Africa and had a record level of sales from our Nigerian coating plant.
And also, although FIDs for new offshore projects are few and far between, we are pleased to have been awarded the supply of the export and chemical injection lines for the deepwater Zohr project in Egypt, a large part of the deliveries fast tracked to the second half of this year.
We have reestablished operations with PDVSA, after more than a year, after receiving a payment of $60 million, half of which will be allocated to outstanding receivables, has been allocated, in fact, - and the other half to new shipments.
Despite declining sales, we maintained a positive free cash flow while advancing with our investment in Bay City, due to ongoing cost reductions and a disciplined working capital management.
Our balance sheet is solid, with a net cash position of $1.9 billion.
These achievements do not change the reality and the difficult situation we are facing, but do show our execution capabilities worldwide.
The market continues to deteriorate, and it will likely to be some time before the recent improvement in oil prices is reflected in a recovery in the drilling activity by our customers.
As activity continues to decline, particularly across North America, the absorption of excess inventories has become a drawn-out process, and this has inevitably affected pricing conditions.
Over the past months, however, we have seen a change in commodity prices, including a rapid escalation of steel and raw material costs.
Since December, US hot rolled coil prices are up over 40%, scrap prices are up 70%, and iron ore prices are up over 50%.
At the same time, the Pipe Logix index has declined 7.5%.
The current level of OCTG prices is clearly unsustainable, and we expect the cost pressure to be reflected in price.
We continue to invest in product and service development that can contribute to simplifying customer processes and reducing their operational costs, as well as enhancing our competitive differentiation.
In the first quarter, we opened our new service center at Midland which acts as a hub for our Rig Direct service to customers in the Permian region.
Out of the around 600 rigs operating in North America in March, our Rig Direct service supplied around 90 of them.
And when our Rig Direct customers decide to add rigs, they will be able to do so without the need to invest in working capital for their tubulars.
We have also begun to deploy our new Pipe Tracer tracking application, with which we are simplifying inventory management and operations by accessing the main technical data specifications of each pipe in real time.
This application is being used in our deliveries to Maersk's Culzean project in North Sea, to Chevron Thailand, and will be offered to our Rig Direct customers all around the world.
In spite of the current low level of sanctioning for complex projects, our R&D laboratories are working at full capacity to develop innovative products that can improve the efficiency and reliability of oil and gas operations and to respond to specific requirements from our customers.
We perceive that our customers, even in this depressed environment, are continuing to look at ways to reduce costs on their future projects, and are now open to innovative solutions.
Meanwhile, we continue to work on adjusting our fixed cost structure to maintain our competitive strength in this difficult environment and to manage our cash flow carefully to maintain our strong financial position.
The next two quarters will be particularly difficult, with sales continuing to show significant declines.
However, the conditions for a turn in drilling activity levels by the end of the year are slowly falling into place, and we have been built up a strong backlog of orders for the Middle East, which should contribute to increasing sales volumes by the end of the year.
We will take now any questions you may have.
Operator
(Operator Instructions) Michael LaMotte, Guggenheim.
Michael LaMotte - Analyst
Thank you and good morning everyone.
Perhaps I could start with getting an update on Bay City, both from the remaining CapEx standpoint as well as the anticipated operational ramp?
Paolo Rocca - Chairman & CEO
Thank you Michael.
We are proceeding in our Bay City project.
As we said before, the [goal] in this year we will have CapEx in the range of $900 million, of which Bay City will be around $700 million.
But I would ask to German to tell briefly how we are proceeding, if the project is on time, and the CapEx [that we should be investing in] Bay City during 2016 is in line with the expectation.
German Cura - Manager, North American Area
Thank you Paolo, good morning Michael.
Very briefly, we continue on as planned.
The first phase of Bay City will be operational by September 2016, and we're expecting to have a rolling mill up and running by Q2 next year.
During 2016, we're expecting CapEx allocated to Bay City to be around precisely that $700 million that we just informed.
And importantly also, we have worked over 5 million hours with no major accidents.
So, from a safety perspective, the execution of the project continues to do very well.
Michael LaMotte - Analyst
Okay.
Just quickly, a follow-up on the CapEx.
The $230 million in the first quarter, about $175 million of that I'm assuming is Bay City?
So, a little over $500 million left?
Paolo Rocca - Chairman & CEO
Edgardo --?
Edgardo Carlos - CFO
Michael, yes, that's correct.
Approximately $175 million has been expended during the first quarter for Bay City.
Michael LaMotte - Analyst
Okay.
Very good.
And then, lastly, German, can you provide us an update on the trade cases?
I noticed that Korean imports were up in the first quarter versus the fourth quarter.
Just wondering if we're going to see any movement this year?
German Cura - Manager, North American Area
Very briefly, again, the administrative review case against Korea continues on.
We're expecting a preliminary determination by September this year and a final determination during Q1 next year.
This is slightly, a couple of months, over what we initially anticipated and is a result of the good number of cases that the EOC is dealing with, not strictly associated to pipes but other products.
So, those are the [statutory] times.
I think at that point we're going to have a preliminary and final determination.
Michael LaMotte - Analyst
Okay.
Great.
Thanks so much.
Operator
Ole Slorer, Morgan Stanley.
Ole Slorer - Analyst
I must say I continue to be impressed by the level of free cash flow generation that you have in your Company at what is arguably a very tricky stage of the cycle.
My first question goes on the Rig Direct.
Up to 90 rigs now.
How much does this represent of your overall sales in the North America market?
This is almost a quarter of the US land rigs.
Paolo Rocca - Chairman & CEO
Thank you Ole.
We agree that the cycle is at tricky part of the cycle, to say the least.
On the point of free cash flow, we're really -- I think this is a reflection of the discipline in working capital management and the execution of cost containment action in all our structure.
Not an easy time for us.
On the share of Rig Direct on our sales, we were saying the 90 rigs in the space Canada, US, and Mexico.
This will represent I think more today than 50%, but I will let German to comment on the share of our sales in the United States.
In the case of Mexico, this is, all of our share are Rig Direct.
In the case of US, probably we are in a range of 60%, but I will let --.
German Cura - Manager, North American Area
Thank you Paolo, good morning Ole.
Indeed, I think important to highlight that North America from our reporting perspective includes Mexico.
So, that's the 90 rigs is associated to the three countries.
And as far as the US, at the end of the quarter Rig Direct sales account by about 40% of our total OCTG sales, slightly higher in Canada, and 100% in Mexico.
Ole Slorer - Analyst
Okay.
Thanks for that clarification.
And German, what do you think the potential is?
Where's the saturation point?
Is it 60%?
Or, what do you have in mind?
German Cura - Manager, North American Area
No, I think, Ole, the perspective we have is that Rig Direct introduces new levels of efficiency, cost savings.
It is our intent to go after a very relevant number: if not 100%, something very close.
This is how we believe our industry should operate in the context where optimization of working capital, optimization of expenses or double expenses associated to repairs, et cetera, et cetera, should be eliminated.
Paolo Rocca - Chairman & CEO
Yes, let me say that when the cycle, when the tricky cycle, will give room for a recovery, the Rig Direct will be very important, because the companies will be able to step up their operations without allocating any working capital to tubulars in our way of supporting -- according to our way of supporting them.
So, I think that Rig Direct in the moment in which the market recovers will be very effective in speeding up the recovery by the oil companies.
Ole Slorer - Analyst
My second question would be just from a higher level, what you're seeing.
If you look at the Baker Hughes rig count, it looks like the drilling activity in Colombia is down 94% from the peak.
In Ecuador, it's almost 90%.
And Mexico, with the latest budget suggests another maybe very steep collapse in Mexico activity.
So, what are you seeing right now in kind of some of these key Latin American markets as far as activity where national oil companies are concerned, as we go into the second and third quarter?
Is it going to grind to a complete standstill?
Or, is there --?
How are your discussions?
Paolo Rocca - Chairman & CEO
Well, you are right that Latin America has been particularly affected in this down cycle, and this is also affecting Tenaris' position in it.
I would say that there are countries in which activity is relatively stable.
I would mention Venezuela.
In the end, the number of rigs is going down less than in other parts, even if the problem of payments has been increasingly difficult.
Then, Argentina.
Argentina went down from 108 rigs down to around 68.
So, it's a big decline.
But I think that the prospective of recovery is more positive in the case of Argentina.
The price of oil continued to be supported around the level of $67 for the oil from the Neuquen and $55 for the south.
So, the price of oil has maintained internally domestically relatively higher, and there will be development of gas.
So, I expect it will be positive in Argentina.
Now, Colombia, as you say, the decline has been dramatic.
We are down to around six rigs, from the more than 35 that we had one year ago.
A big change.
I think that this will recover slowly.
Only when the price of oil will cross the line in the range of $50 a barrel will the activity in Los Llanos could start back.
Ecuador, another very complex situation.
There are around three rigs, against the 17 rigs in one year ago.
I would say this also depends from the recovery price of oil.
Probably, $45-$50 per barrel is a new very important threshold to recover activity in the major oil fields.
There will be I think increased activity at that level.
Mexico, please, Guillermo, if you can have a brief comment on Mexican [operations].
The rigs are down, but the perspective is not so clear if the recovery could be 2017 or how fast this could recover.
Guillermo Vogel - Member, Board of Directors
Sure Paolo, good morning Ole, nice talking to you.
Mexico has been going through a difficult process.
If you remember, last year there was a [production] in the budget of MXN60 billion for Pemex.
This year, in February, there was another reduction, of MXN100 billion, which put Pemex on a very, very difficult liquidity squeeze.
It stopped paying suppliers.
And then, there was a little while ago the change of the CEO, and we got a new CEO who came into the process.
And I think that's going to be helpful in terms of having more direct decisions.
But we are right now in a standstill situation, where he's evaluating and he's trying to move in a certain way.
As you've said, in Mexico we lost -- from the fourth quarter to the first quarter, we went from 54 rigs to 43 rigs.
And from what we are seeing today, in terms of the short-term plans of Pemex, we might lose another six or seven rigs during the second quarter and level there.
Pemex has made an estimate using prices of $25.
If the current prices remain, I think that should give us some help.
And a couple of weeks ago, the government finally decided to support the company, with a package of three main elements to return to Pemex around MXN125 billion through fiscal changes in the structure, through direct contribution, and through monetization of some bonds.
So, I think the perception I have at this point in time is that Pemex is going to try to use much more the reform to increase activity, but this is going to take some time.
So, I see the level in the second and third quarter leveling at the volumes that I mentioned to you.
Then, we're going to start to see in the fourth quarter a little bit of orders coming from the new players, especially on the shallow water bids.
And then, we're going to start to see in 2017 a little bit more coming in gradually, of rounds 1.1, 1.2, and 1.3.
So, I think that that's going to start to support the process in 2017.
At the same time, you see that Pemex it has presenting seven blocks to try to do farmouts.
They are under evaluation right now in SENER, in the energy minister.
So, that should start to come slowly back also.
But I think in 2017 we're going to start to have there some help.
And the migration process of the 22 contracts that were there, we have seen no movement.
So, I think we're going to see a leveling off into second and third quarter, and then we're going to start to see a recovery in Mexico.
Ole Slorer - Analyst
Okay.
Thank you very much for that rundown.
Paolo Rocca - Chairman & CEO
Ole, one comment on Brazil.
Also, Brazil went down in terms of rigs, and there is clearly -- it's difficult to predict with this program.
Let me add one comment on this.
In Brazil and the other countries, what we will be missing during 2016 are the pipelines.
We have delivered big pipelines, and we do not expect to have major pipelines in 2016 either in Brazil or in other countries of Latin America.
Ole Slorer - Analyst
Yes.
I noticed your seamless sales have held up remarkably well.
So, that's probably because of this project.
Thank you very much.
At least a silver lining must be that Latin America will help rebalancing the oil markets, given this sharp drop-off in activity.
But I'll hand it back.
Thank you very much.
Operator
Bill Sanchez, Scotia Howard Weil.
Bill Sanchez - Analyst
Thank you, my first question regards around kind of your revenue thoughts here, going forward.
I thought it was a pretty commendable first quarter result, considering the sequential decline you saw that was rather sharp in the seamless volumes, which tells me that that coating services offshore line pipe project was pretty meaningful here.
Can you help us think about maybe two things?
One, seamless volumes from here as we start to consider the effects of the restocking that's going to be taking place in the Middle East, broadly?
I know you also have a new contract with Chevron in Thailand.
And then, also help us think about that coating services offshore line pipe project.
Was that just a one-quarter phenomenon here?
Or, is that going to continue to flow through positively here in the coming quarters?
Paolo Rocca - Chairman & CEO
Well, first a comment on where our revenues are going during the year.
Probably the scenario we see today for our sales is slightly more negative that the one we mentioned in the last conference call.
Because in the end, the action of the oil companies in the first quarter of this year has been to introduce further cuts, and you see this reflected in the rig counts, especially in the United States.
And the recovery will be slow, probably somewhat slower than we expected three months ago.
Now, in the 1st Q, we see that our backlog in Middle East will -- [gets in] and allows us to recovery in terms of volumes.
And also contracts like Thailand will kick in and will be supporting sales in the 4th Q and in the successive quarters.
So, this is our view today.
But maybe, Gabriel, you can add something on the Eastern Hemisphere contribution to our revenue from the last quarter?
Gabriel Podskubka - Manager, Eastern Hemisphere Area
Thanks Paolo, good morning Bill.
Regarding your point about coating services in Nigeria and sub-Saharan Africa, it was a particularly strong quarter, first quarter.
We expect these revenues to continue towards the next at least two to three quarters, but at a lower pace than the peak that we had in the first quarter.
As you know, sub-Saharan Africa has been one of the areas mostly affected by the decrease in the price of oil.
As a matter of fact, today we have half of the rigs that we were having a year and a half ago.
So, many of these projects will, let's say, conclude these FIDs bids done before the crisis, and we don't expect these to be resumed.
On the other hand, activity on the Eastern Hemisphere remains solid for the next few quarters, given the strong backlog built in the last quarter.
We commented in the last quarter about Kuwait and UAE, and also we have been successful in Saudi in the last quarter, assuring us a leading market share in the premium segment of Saudi Arabia.
And as Paolo mentioned, that Chevron Thailand contract will kick in toward the second half of the year.
I was visiting our works about how our service center is being built in Songkhla.
The work is on track, and we are ready to serve these new customers in the second part of the year.
So this is how we -- on the one hand, we will lose some existing volume and revenues in sub-Saharan Africa, to be offset by new bookings in the Middle East and this new contract in Southeast Asia.
Bill Sanchez - Analyst
Okay.
Thank you for that.
And then, I guess, Edgardo, a question for you.
I know last quarter you all had given a specific guide around EBITDA margins, I guess maintaining a level of what you had actually reported in 4Q, not the adjusted number when we may do the add-backs.
But you exceeded that in 1Q.
I know the press release calls out this raw material cost inflation, but I was curious.
Aren't we still in the early stages of recognizing some of the raw material reductions that you guys had had in past quarters?
Talk to us about how much of that has positively impacted the P&L here in the first quarter and how much more do we have to go as we think about the balance of 2016?
Edgardo Carlos - CFO
Sure, in the quarter that we just finished, we still have some positive impact of the raw materials because of the FIFO effect, that we are expecting to continue in the second quarter.
Then, coming in the third quarter we will see basically the impact of the raw material inputs that Paolo was mentioning in the opening remarks.
So, that's why we are going to be probably affecting our EBITDA ratio.
Overall, for the year, we're going to be two to three basis points below that what we were expecting in the last conference call.
Paolo Rocca - Chairman & CEO
We are anticipating to be slightly below 15% in terms of adjusted EBITDA ratio.
There will be some costs of restructuring that I'm excluding from this.
Now, I think that we are not including here the price dynamic.
I really think that prices should move up in the coming, probably, with a delay from not in the 2nd Q, but in the 3rd and the 4th, because the present level of prices aren't sustainable considering the pressure of costs.
This may have an impact on the EBITDA ratios in the 4th Q. It will depend from many factors, but I really think that this is one of the key issues for the industry today.
The increasing costs of raw materials, because of the effect of getting through the inventories, will not be perceived strong in our EBITDA ratio before the 4th Q or the 3rd Q. The 3rd Q will be also start to see the effect of these higher costs.
Bill Sanchez - Analyst
That makes sense that it would be delayed, just because it seems like it's taken longer to realize the lower raw material cost savings just because your volume shipments have been, I think, lighter as a result of this downturn.
So, I figured that would be more of a 2017 issue that we would be reconciling, as opposed to 2016.
Is that fair, Edgardo?
Paolo Rocca - Chairman & CEO
But you remember some of the increase in the costs that we are seeing will kick in, like some of the cost of power, these are kicking in pretty fast.
We may see some impact in the 3rd Q. But I really think this should offset this with price increase, even if our pricing power is not really strong today.
But the cost push is very strong, and it's having an impact on our competitors -- and on us, also -- but needs to be recognized by the industry.
Bill Sanchez - Analyst
Okay.
Thanks for the time, I'll turn it back.
Operator
Pedro Medeiros, Citigroup.
Pedro Medeiros - Analyst
Thanks for taking the questions.
Congratulations for the results.
This is actually --.
Most of my questions were answered.
I just have one very quick follow-up to the comment on Latin America.
With the completion of the significant backlog you had in welded pipelines to be delivered in Brazil and Argentina and apparently with a lack of visibility on your orders, do you foresee -- is there any chance that you will need to further rationalize your capacity in the region throughout 2016?
How should we be considering that?
Paolo Rocca - Chairman & CEO
You know, the pipeline business is by its nature a cyclical business.
We have big pipelines; like in the case of Brazil, the Rota 3, or in the case of Argentina, the northeastern pipelines.
And usually we have agreements with our people in the plants that allow for suspension or agreements that allow us to reduce the cost when the level of plant load goes down.
What I said before is that we are completing during the first quarter of 2016 some of the major pipelines that we were producing and delivering during 2015.
We have no important orders for pipelines during 2016, and we think that the activity in Brazil is not very promising; maybe in the second half of 2017, but not so much before.
We will put into place all our -- the tools that we have to get flexible our costs, fixed and variable costs, in the plants that are supplying these segments, but it's something that we've done in the past successfully.
Pedro Medeiros - Analyst
Okay.
Thank you so much.
I'll turn it back.
Operator
Felipe Santos, J.P. Morgan.
Felipe Santos - Analyst
I just want to get a broader view.
From your earlier comments, you're seeing margins going down yet this year, recovering by the end of the next year.
But the impression that we have is that everybody is already focused in 2017, given all the difficulties we have in 2016 on the cost side and price side, etcetera.
So, would you have any guidance to give us for 2017 and onwards in how the Company is thinking in terms of margins or revenues growth or increase?
And the second question is, if we see a market rebound and this happens on 2017-2018, what would be the cash consumption that you would have on top of your net cash position that you have right now?
Meaning that, how much would grow in terms of CapEx and Rig Direct project?
And how much would grow in terms of working capital?
Paolo Rocca - Chairman & CEO
On the first point, I think the margin discussion we gave an indication of where we expect it to be in 2016.
But then, really, the question will be the dynamic of pricing in our mind.
We have seen in the last three months commodity prices stabilized and some to recover fast.
Some pricing [change], like the hot rolled coils, has been very strong depending for the action for reducing capacity in China, depending from the antidumping [in the] region.
But we increased prices -- we have seen an increase in price in hot rolled coils by around 40% in this period.
Strong.
Now also, in our markets we can see a price increase.
We can not anticipate how strong or how fast.
But I really think that we arrived to a point in which there will be a recovery.
Probably during the second part of 2016 we will see this reflected -- we could see this reflected in our accounts.
Now, this will be a key driver for the margin in 2017.
There will be more volume and there will be recovery in the activity and there will be recovery in price.
Issues like the revision of the Korean antidumping action are very relevant from this point.
All of this will determine the level of margin that we can expect in the middle term, which is during 2017.
On the second point concerning the -- if I understood right, you are basically asking where will be our free cash flow before dividend in 2016.
Considering we are investing heavily in Bay City, we think that by the end of the year we may be losing -- having a negative cash flow, a slight negative cash flow, over the year before paying dividends.
This is a result of the investment in Bay City, but will be a limited number in our view.
Bill Sanchez - Analyst
That's perfect.
Thanks so much.
Operator
Michael Rae, Redburn.
Michael Rae - Analyst
Hi there, thanks for taking my questions.
The first one is just on Rig Direct.
So, it sounds like the Rig Direct penetration has increased by around 10% over the past quarter.
Is it fair to extrapolate that rate of increase?
Or, did you have some big notable wins in 1Q?
And then, related to that, is there scope to roll out the sales platform internationally?
I know you use it in Mexico, but is this something that national oil companies would be interested in, in the Middle East, for example?
Thanks.
Paolo Rocca - Chairman & CEO
We are actually operating on Rig Direct in many places of the world, from Romania to Thailand.
As we mentioned, obviously to all of Latin America in which we are in place.
So, this is our way of working worldwide.
Now, for understanding or how fast we may grow in this way of operating, I'll ask German his point on view on the situation of United States that is very large opportunity for us.
German Cura - Manager, North American Area
Well, Michael, I think -- we don't obviously disclose very specifics on these deployment strategies, for competitive reasons, but I think an important element for you to picture the degree of acceptance and rate of Rig Direct market penetration, as we call it.
It represents 40% of our OCTG sales in the States, as we indicated priorly.
But as we have advised also publicly in the past, we have decided to start in the south.
So, when you look at it, then you rapidly conclude that, on average, Rig Direct has become a very powerful tool in terms of bringing new levels of efficiency, given how fast it has spread out in the south; south being primarily Permian, Eagle Ford, to a very lesser extent a portion of Macondo.
Now, the intent is to move north, obviously, and we have plans in place, partnerships in place.
And that will be an area of work which will occupy us towards this remaining part of this year and next.
Michael Rae - Analyst
Okay.
That's great.
Thanks.
And if I could just have a quick follow-up on the cash question that was just asked previously?
So, I can kind of see the mechanics of how you would get to negative free cash flow over the course of this year.
But I think that would imply quite a sizable working capital outflow, which is not really in evidence in the first quarter.
So, what's driving that assumption?
Is there a demand rebound baked in there?
Or, is that because of Rig Direct absorbing a bit of working capital?
Or, what are the dynamics there?
Paolo Rocca - Chairman & CEO
The major absorption of our cash flow, I would say, would be Bay City investment.
As we mentioned before, Bay City will receive around $700 million during 2016.
This is a major absorption.
And the generation of cash from the operations before dividends will be, let's say, likely below this level.
So, we will have some negative cash flow.
The question of working capital, it will depend on how fast we can have a recovery in the 4th Q. If the recovery pick up a little faster, the free cash flow will go down and will be slightly more negative because we will be building stock during the months of September, October, and December, hopefully.
I hope it could happen that, but today we are considering that this is, I mean, it's not something that is so clear today.
Michael Rae - Analyst
Okay.
Well, thanks very much.
Operator
Alessandro Pozzi, Mediobanca.
Alessandro Pozzi - Analyst
Thank you for taking my question.
I just have one broad question on the comment about recovery towards the year-end.
I was wondering if you can give us your thoughts perhaps on the recovery, specifically in the US?
And I was wondering what type of shape you think the recovery in the US is going to have and whether $45 WTI is sufficient to have a materially higher rig count?
Paolo Rocca - Chairman & CEO
Well, thank you Alessandro.
I think nobody knows.
I think today we have a price of oil that is in the range of $40 or $45.
Everybody is waiting to see if this is a stable, sustainable situation and what is the trend that could even go higher than this.
Everybody is following very carefully the reduction in production of oil in the US, in the non-OPEC, non-US.
This is something very relevant.
We were mentioning before countries like Ecuador, Colombia are relevant.
Mexico, also.
Remember, Mexico could go down to a level of around 2 million barrels a day, which would be a loss in one year of around 200,000, from now, and 400,000, from before, thousand barrels a day.
All of this, everybody is looking at this.
Then, the companies will start taking decisions.
I think that when they consider the price of $45 or $50 is stabilizing, they will start mobilizing, looking for financing, and designing the strategy for the future.
How long will it take and when this will turns out into an increase on the rig count?
I don't know.
But what I know that this will happen.
And will happen, and it could also be stronger than we may anticipate today.
Because in the end, the production may show signs of increase that could go accelerating all around.
At that point, I think there will be a reaction.
So, this will mark the level of rigs by the end of the year.
I expect that will be higher than what we have today, but it's difficult to say if we will be in the range of 500 or 550 rigs.
This is something that I don't think we can evaluate.
We have no visibility today on how this will react.
Alessandro Pozzi - Analyst
Okay.
Thanks.
And also, a bit technical question on the accounts.
I think you have a different management view on operating income from the IFRS.
I was wondering if this difference is going to close this year towards maybe the Q3, Q4?
Paolo Rocca - Chairman & CEO
I'm not sure we understand your question.
Because of the IFRS, what we said in the previous -- responding to the previous question is that the cost increase in iron ore and hot rolled coils and other commodities will get into our cost of sales starting in the 3rd Q and increasingly over the 4th Q and the 1st Q 2017.
We will see this impact because of the structure of our inventories.
Alessandro Pozzi - Analyst
Okay.
I'm understanding.
Unidentified Company Representative
(multiple speakers)
Alessandro Pozzi - Analyst
That's fine.
Thanks.
Operator
Ide Kearney, GLG Partners.
Ide Kearney - Analyst
I just wanted to talk about the cash flow forecast, because basically obviously you're hoping for an improvement in pricing by the end of the year.
But this may be optimistic, given there's oversupply and so much stress on the E&P side.
So, I just wondered, what do you think the sort of -- what's the range of cash outflow you have?
It looks to me as if you could probably burn $200 million to $300 million during the course of the year.
And what the dividend policy would start to look like in that kind of a scenario?
And I appreciate that the prices may go up, but equally, it's quite possible that, in fact, pricing gets stuck here, because prices year to date are still falling in the tubes.
Thank you.
Paolo Rocca - Chairman & CEO
I will ask Edgardo to make a comment on the different items that are affecting our free cash flow on this, and then I will comment on the dividend.
Edgardo Carlos - CFO
Sure, most of it has been already discussed in previous questions, but basically what we see compared to this quarter that we still have a very important positive free cash flow.
We are now -- next quarter, we will have a dividend payment of $350 million.
So, even though we are generating a free cash flow, taking aside the dividend payment of roughly $80 million, net of the dividend we will have a reduction of free cash flow roughly $250 million.
Looking to the second part of the year, we will continue trying to recover as much as possible from the working capital and also through efficiency in our operation, trying to maintain the level of operation and cash flow that we have seen in the past.
But clearly, as we anticipated, the third quarter we see a reduction in volumes, some inefficiencies that has not been fully translated in savings.
We will have a negative free cash flow probably in the next two quarters -- the second half, basically -- which will come out also with a buildup of inventory for the pickup in volumes that we are anticipating.
Ide Kearney - Analyst
In the first quarter, the cash flow was only positive because of working capital reductions, which is probably -- I guess you can do more.
But did you sell receivables in the first quarter?
Can you say?
And also, what were the securities that you sold, exactly, which we see in the investments line?
Edgardo Carlos - CFO
The most important reduction in the working capital came from the inventories.
We reduced over 150,000 tons of inventory and we've been very consistent in the last year also, adapting to a new reality of the volume that we are selling.
In terms of receivables, we are not -- very, very few cases we have been reducing or doing some factoring, particularly some, very limited, with Pemex in Mexico.
But most of the activity is very much with the collection.
It's true that we have been extending -- it has been extended, the DSO, due to some delay in the payment condition of the customers, but most of the working capital efficiencies are coming now from the inventories.
Ide Kearney - Analyst
Okay.
Paolo Rocca - Chairman & CEO
As far as the dividends are concerned --.
Ide Kearney - Analyst
Could you also say what the securities were that you sold, because you have a large balance of -- it's like $1.1 billion in the bond and cash and equivalent.
What exactly was sold?
Edgardo Carlos - CFO
You mean securities (inaudible)?
Ide Kearney - Analyst
"Cash flow from purchases and sales of securities, net," which in the first quarter was $129 million of positive cash flow.
Unidentified Company Representative
(multiple speakers)
Ide Kearney - Analyst
On the balance sheet, you've got obviously cash and equivalents.
[With the other investments, it's] a very big line item.
I assumed it was one of those.
Edgardo Carlos - CFO
Let me try to explain it.
Even though we split it in our balance sheet, current and uncurrent positions, for us it is basically for part of the cash that is held to maturity with an average life more than a year.
But in overall, we consider this part of our cash.
The (inaudible) securities that we are -- the $130 million that you see in the cash flow are coming basically from the collections that we have.
But overall, the position, the net cash position, of the Company has improved by $80 million in the quarter, from December to March.
And this cash flow from purchase of securities that you see in our balance sheet is basically coming from the management of our liquidity, an investment of our liquidity in bonds or other assets that are part of our cash.
Ide Kearney - Analyst
Okay.
Paolo Rocca - Chairman & CEO
So, it is liquidity management.
It is not either long-term or commitment.
Now, on respect of dividends, we also made the same point in the last quarter conference call.
We will basically be consistent with what we have done in the past, looking at all the variables that are relevant for this: our results, and our managing on one side, the perspective for the 2017, the possible substantial commitment that we may have coming from organic or non-organic growth, which, by the way, at this point in time I do not see are very relevant.
In the future, the level of cash in hand.
So, we will consider all of these to propose dividends for our shareholders, for our Assembly.
But we will try to be consistent with what we have done in the past.
Ide Kearney - Analyst
Okay.
Just to --.
Last clarification.
Of the cash and equivalents, I take the point some of it is longer term.
How much do you actually think that you need to keep on balance sheet?
What's the comfortable level?
Because to me, it looks very high.
So, is it something that you can sort of probably keep a dividend for quite a while because you can run that down?
So, what kind of levels could you take it to?
Paolo Rocca - Chairman & CEO
Well, we are keeping a very strong balance sheet position basically for two reasons.
We think that this is a key component of our competitive advantage in positioning Tenaris when the recovery will start -- in supporting our clients, in supporting our Rig Direct operation, in being able to respond fast to the recovery.
On the other side, we are also think that the crisis in the energy sector is a very deep structural, almost unprecedented, crisis.
So, we need to be prepared for change, opportunities for acquisition that could come out in the future, in the middle of this restructuring of the energy sector.
We do not know and we have no specific target or objective, but we know that in this crisis things are moving, and we may, there could some reconfiguration of the market environment.
We should be prepared to take advantage of this.
At the same time, we are giving a clear message of stability to our shareholders and ability to face any negative or positive change that comes.
Ide Kearney - Analyst
Okay.
Great.
Thank you very much.
Operator
Frank McGann, Bank of America.
Frank McGann - Analyst
Good morning, just quickly -- and I apologize.
I got cut off for a few minutes.
So, maybe you already gave some of this detail, in which case we can follow up later.
But in terms of pricing, you mentioned that you're quite confident you can begin to recapture some of the rise in raw material costs over the next six to nine, 12 months.
And I'm just wondering how confident are you that you'll be able to fully recapture that, given what still looks like a very oversupplied market with more capacity coming in and with additional CapEx cuts we're seeing by many of the oil companies that are announcing further reductions?
How do you see the market?
And how quickly is it going to get a little bit tighter so that you can get those price increases?
Paolo Rocca - Chairman & CEO
Thank you Frank.
Well, you're right when you say that [I'm confident].
Well, what I see is that this pricing is unsustainable in the light of the increase in costs.
Even in the steel industry, not that this is a very favorable moment.
There is a lot of overcapacity in the world, and this is not the best moment.
Many of the companies -- just read the newspaper and you see in Europe and everywhere, how the situation is tough, even in China.
In spite of this, hot rolled coils increased by 40% in the last month.
So, what are the drivers of this.
The drivers are the cost pressure on every player.
Now, we are in a similar situation in the tubular market.
It's not that we have strong pricing power today; we don't have.
But the cost pressure is strong, and all of the players in the area will be facing the same cost rates.
So, I'm confident that the common difficulties will result in an increase in the pricing.
This will offset some part of the cost increase and will help us navigate through the coming -- well, in the last part of the year.
So, in the end, if I'm right, this will be perceived in the third and the fourth quarter, but will be relevant for coming into 2017 with a different level of price.
Operator
I'm not showing any further questions in the queue.
I would like to turn the call to Giovanni Sardagna for any final remarks.
Giovanni Sardagna - IR Director
Thank you, Carmen, and thank you all for attending our conference call.
I hope to see you soon.
Thanks.
Operator
Ladies and gentlemen, this concludes our conference for today.
You may all disconnect.
Have a wonderful day.