Aperam Sa Ord

Hello and welcome to the Aparam Q2 results conference call. My name is Kevin and I will be your coordinator for today's event. Please note this conference is being recorded and for the duration of the call your lines will be on listen only. You will have the opportunity to ask questions at the end of the call and this can be done by pressing star 1 on your telephone keypad to register your question. I would now like to hand the call over to Tim DeMauro, CEO. Please go ahead.

Hello, good afternoon, and welcome to the Aperam second quarter Q&A. I'm here with Sud Sivaji, and we will answer to your question. I assume that you all listened to our management podcast for the quarter, where we detail our views on the current market environment and on the outlook. Before we start with questions, let me say that the situation in Europe is difficult and warrants a comparison with 2020. Both volumes and prices are at absolute trough levels. Still, we generate cash, and our differentiated value chain with recycling and with alloys allow us to post a solid result. We are cost-competitive, and Europe is a BDA positive as a result of the leadership journey gains. Now I hand back to you, to the operator, and to you for the Q&A.

Thank you. And as a reminder, if you do have a question, it is star one. Our first question today comes from Tristan Gresser of BNP Paribas XAIN.

Yes, hi. Thank you for taking my questions. The first one is, and you just mentioned it, you made reference to the COVID crisis. And as such, given the lower EBITDA guidance to Q3, I wonder if we could see the COVID levels we've seen at a group level as a supporting Or do you think the current market weakness, notably in Europe, which is of course different now, could actually turn into something worse than what we saw in 2020? That's my first question.

Thank you very much. So I think that is a combination of many factors, but indeed the comparison is that it is even a little bit tougher due to prices. Prices were at a certain level in 2020, and today they are even lower. We have some one-off elements that we will be explaining maybe later by suit. that also wait, and on the contrary, we are compensating for all these headwinds with the progress that we have done compared to 2020. So all in all, there are positive and negative, and indeed the situation is a comparable very low trough of a cycle.

All right, that's clear. And my second question, in your prepared remarks as well, you mentioned a non-performing industry structure in Europe. Could you please elaborate a little bit on that? I mean, we've seen balance sheet improve amongst market participants. We've seen better trade protection. So what's really missing on the structural basis, temporary demand weakness aside, in Europe? And do you believe there's still too much upstream and rolling capacity in Europe? Thank you.

No, it's a question of combined effect of what has happened in 2022 with the huge imports and the stocking that has started in Q4 last year, which has not been sold so soon because of the factor of the decreasing demand and decreasing prices. You know that when prices are decreasing and strongly decreasing, there is absolutely not appetite from anybody to restock. So people have continued to look at the next prices as going down. These prices, as you know, are also led by the global, let's say, price level, which are led by China. So price is going down, nobody is restocking, and you create a situation in which all the demand is on very short term and no need to restock. So it is more and more, let's say, subdued demand. Now we think that the segments also are accepted for automotive, are below normal. in all the segments which are our consumer. In particular, we see that construction due to the declining of the property prices and the fact that the cost of money makes difficult to have money to invest in new property. Construction is very, very poor. Consumer goods also have reduced a lot. And we see that food, health and catering industry and the other segments are still below average. So if I resume, low demand, which is low real demand. No appetite for restocking in a trend of decreasing prices. And we are coming from, let's say, a period in which inventory were high. Now inventory are low, but the possibility to supply on short term is very easy. All right. If your question is, is there overcapacity in Europe, it's no. No. Europe is well balanced on that.

All right. That's clear. Thank you.

Thanks.

Our next question comes from Bastian of Deutsche Bank.

Yes, good afternoon. Thanks for answering the first question. It seems like what you described, that I think a lot of these sectors, you would see them as temporary. Maybe just a quick follow-up, just also on the comments you made on inventory, I think in the podcast. I think clearly the service center stocks are quite low already, but I guess you mentioned that you still see higher inventories in the appliances industry. Do you have a view for how long that takes to basically reverse and normalize the inventory level, which you see among the actual processes rather than on the distributor side?

That is my first question. Sorry if I was a little bit unclear. I've not said that inventory are high. I say that inventory are low today when you see the inventory are definitively below normal. But demand also is lower. So in terms of rotation, we can say that this is normal. But the effect that we see is that when prices are going down, there is nobody who tried to restock to go up. And this creates a kind of demand on very short term. And when there is not enough consumption, the demand very short term can be satisfied. And so you have this effect for which the apparent demand is lower.

Okay. If I may add, Bastian, sorry, just one second to what Tim said. Inventory building also is a bit reticent because, as you've noted, the carrying costs of inventory have gone up compared to the last six years where interest rates have been traditionally super low, close to zero. And today, if you are a smaller distributor, your carrying costs have gone high. So the macro environment, what Tim has described, supplemented with the financial situation where interest costs and costs of borrowing are quite high, has an effect.

Yep. I think which is, however, arguably, I think that's obviously temporary as the industry has to rebalance maybe to that new situation. But I guess that obviously means that maybe the potential for restocking is slightly smaller, but it also means that there's going to be less, I would say, overhang in the system, which is going to rebuild on the way up, which is probably healthy.

Okay.

Will be.

Will be. It will. At a certain moment, it will be.

I want to get back on your guidance. I think you gave a pretty sharp guidance for all divisions except for stainless. I just wanted to walk through the building blocks here. So volumes will be up. From my understanding, I guess Brazil would usually be better from a seasonal pattern. And then costs are down in Europe, but then you're obviously taking the hit on the price side against that. So is it fair to assume that the earnings drop, which we should see in the stainless steel division, should be maybe not as much and maybe possibly smaller than the drop we've seen in the second quarter versus the first one. Is that fair to say? Was there any further quantification you could help us with for the division?

See, Bastian, let me take that call, right? So the one thing you do have to keep in mind is the fact that end of the day, There's three factors in play, right? So you've mentioned actually the regional split, but let me talk about the three factors if it's okay, right? So first one is the volume factor which you spoke about. Now the volume effect is primarily, I would characterize it, a slight catch-up from the really abysmally low Q2, okay? And there is no change in seasonality. It's just a marginal catch-up in terms of volumes, okay? So that is one thing. And the volume effect plays only moderately into the picture because of the price effect that Tim has spoken about. That is the second part. Okay. And the third and the last part, and we tried to be quite clear this time about the one-time effects we have in our business, right, for the European part for this whole year. those three factors actually would play in the role for Q3. Okay. So if you're asking me, would the drop be as, uh, as similar, I would suggest the drop in one case was led by volumes, but in the second case, it is going to be led similarly by price, um, and, uh, one time effects. Okay. Just to give you a clear, uh, split Bastian, because, uh, Tim referred to that in his answer to Tristan also. We had given about 150 million euros. One-time effect is what we expect for the year. Let me split it into the three parts which I mentioned in my part during the podcast. The first part is that of inventory valuation, which is the traditional raw material price-led valuation. because of the significant drop as you've seen in the main raw material prices nickels one-third the price less during the year right so that is something which is significant and as a result that is about one-third of the 150 million is the regular inventory valuation across the supply chain driven primarily by raw material prices another one-third is because due to investments we are carrying higher double-digit tonnage as inventory from quarter to quarter because of our investments. Now, in a market where price is dropping, there we do have a one-time hit, which should not repeat on a quarter-to-quarter basis. It has nothing to do with operational performance. It is purely to do with inventory carry for future quarters, right? So this should not carry over to next year. So that's one-third of it. And the remaining third is basically as the entire stainless industry, in a period of high energy prices, we did have some decisions on energy risk management and hedging. And that tunes to the rest third one-time effect on our European business for this year. So that's the one-time effects. You do have to keep in mind that the energy effects were positive last year to the same tune, but it got lost in the 1 billion euro EBITDA. And this time, obviously, spot prices have dropped. So on a mark-to-market basis, if you look at it, there is a one-third hit. So those are the one-time factors. I hope I've given you enough color to model in your Q3.

Okay, that has been helpful. I have another one, probably again for you, actually on working capital. Because I guess before you argued that the higher working capital, which you've built over the last two years, was literally only driven by value. And then if we look at nickel prices, they've come down 30% versus the end of 22, and they're back to 2021 levels. If we look at stainless prices, they're down 30% as well, versus end of 22, and even down 50% versus the levels at the end of 21. Now, of course, I see why I guess the AOD investment obviously causes the deferral here in the working capital cycle. So you're not maybe seeing as much working capital yet. But you're guiding for net debt to be broadly flat. So why are you not seeing a more pronounced release from working capital? Of course, there have been impairments. I get that. I would have thought there must be a stronger potential for you to release working capital. Or is there maybe another spillover into the new business here because of the AOD?

Hi, Tristan. Yeah, no, that's a fair question, right? But the point is that the cash release is going to come in Q4, Tristan, just because of the fact that end of the day, it's a technical effect. See, you build inventories. And in Q3, when the investments are being done, you reduce the inventories. But what happens technically is basically you reduce payables first. And you take first a hit on your cash, and then you actually release the cash as that moves through the system. So it's purely technical. Is that clear?

I guess. Yeah, I think my point, though, is why should we not expect an even stronger working capital release? I guess when you're guiding for net debt to be, say, broadly flat, I guess with somewhat reasonable assumptions here, you can only factor in a very, very minor working capital release versus the levels you had built until end of 2022. But then if I look at stainless prices, if I look at nickel prices, I mean, they've come all down much more significantly, not just versus end of 2022, even versus end of 2021. So I guess my point is, why not more?

No, that's correct, Bastian. So, Bastian, because I believe you have just the price effect in mind, but we had guided to two different parameters. One is the fact that we said we will have the Genk AOD during this year, once in Q2 and once in Q3 investments, and because of that, we'll carry inventory, right? The second thing, we have also said that there is... investment shutdown in Brazil for the Q1 of next year. And typically, we choose to do the investment shutdowns in Q1 in Brazil because that is the weakest quarter, so you don't lose a lot of volumes. As a result, you will see a technical effect because we carry some cash end of the year before we release it end of Q1 next year. So that is the delta you're missing, I guess. So it's primarily two investments. The pricing-led releases are happening as we speak.

Okay, but would you describe that guidance of keeping net debt broadly flat year over year, would you describe that as conservative? Because again, I think the magnitude from potential value here should be, I think, much more significant.

No, I wouldn't consider it as conservative because end of the day, I think we are translating the fact that we did have a cash release last year already as nickel prices and scrap prices got down. Now, what happened is that the last 15 days of the year, nickel prices went up to 30,000, right? And raw material prices don't get determined because of 15-day price increase in nickel value for last 15 days of 2022, right? Besides that, on a raw material basis, yes, raw material prices have come down, but these raw material prices have not come down compared to beginning of 2021, where we were at 17,000. So if you look at it, we are broadly where we started out in, I would say, March of 2022 before the nickel crisis. Okay.

Okay, all right, thanks for the call. As a reminder, if you do have a question, please signal by pressing star one on your telephone keypad. The next question today comes from Krishan Agarwal of Citibank.

Hi, thanks a lot for taking my question. Quick clarification from Sud on this $150 million one-time effect. Did I get it correct that 150 million one-time effect is for the full year? And if that's the case, would you be able to help us as in how much of that is already booked in first half?

So I see the part of this 150 million is also based on valuation effects, right? Because expecting how the prices are going to develop. So At current projection, we are making it on one-third first half and two-thirds second half. That's the reason for our relatively conservative guidance for Q3. I understand.

And then the second question is more industry-wide, maybe for Tim. I mean, you mentioned that Europe is positive or profit-making, even at the prices are lower than what they were in 2020. Obviously, cost focus and the leadership journey gains have played a bigger role in that. But if you look six months or 12 months down the line when no volumes are recovering, do you see a scenario where price recovery is more shallower as compared to what price level we have seen in the past five to 10 years? And then there is a case that normalized margins are lower for the industry?

No, I don't think so. I think it is a temporary situation. So we have a kind of acceleration of the cycle. You have seen that 2021-2022 have been very extreme in the upper side, and now they are extreme in the downside. We are far from the normal of the market, and we are perfectly clear on the fact that the protection in Europe is much stronger, and protection in is a main point for the volumes in Europe. Now we are in a situation in which the demand, the real demand is lower. We expect the real demand to recover. And especially, as I said before, there is in this moment a kind of mindset of everybody to be shorter and shorter and not take any risk due to the fact that prices are going down. Okay, so it is a context which is a bit extreme. Is it clear what I'm saying?

Yeah, I mean, I get your point, but I also get that, okay, there is a sense of uncertainty as in how stronger or pronounced or shallower the recovery is going to be. Yeah, but I think that's it. Okay. Thanks a lot.

Thanks a lot.

As a final reminder, it is Star 1 to ask a question. Our next question comes from Kristen Gresser of BNP Parabarics.

Yes, hi. Just to follow up on the short-term action plan, I know you're still finalizing it, but what are the measures you're looking into and how they're different for maybe the pass-down cycle if you could tell us if they're temporary in nature or a bit more structural, maybe if you can tell us also about the scale of it that is incorporated in the guidance, and if it was Q2, Q3, or Q4, or both, any color there would be appreciated. Thank you.

So, fundamentally, we have a our leadership journey, which is already accounting for 150 million at the end of the second quarter, and we will do more in the next quarter. But on top, we have temporary measures, so some flexibilization of the work and temporary, let's say, solution with our contracts that we have. And then we have some structural. The, let's say, This will be more explicit in our release of Q3, but there is a mix of two, knowing that leadership journey and what will be coming on top of the 150 that we have promised is structural by nature.

Okay, but the temporary measures should already have a certain impact into Q3. Those are things you already implemented.

Yes, we'll have an impact on Q3 and Q4 in the two quarters to come.

All right, that's pretty clear. And maybe one last question on the market environment. I mean, we've seen Asian stainless steel prices weakening of late. The ARB can maybe open a little bit more. I know the key concern is demand in Europe at the moment, but do you believe that We should not be concerned at all by this weakness in Asia, and you're not concerned for around the imports flow into the second half.

So, as I said before, the protection we have in Europe is now much stronger than we have had in the previous, let's say, crisis for demand, which was 2019. much much stronger today we don't see this as uh as the main driver the problem is the uh the volumes in europe are extremely low you see that the um the the imports are not so so high in in the first six months what is clear is that the the general trend of price in the world has an impact because this is the leading price is always China, and when this price is at a level which is so low as it has been, this has, as a consideration, is translated in the European market and the Brazilian market as an effect of the duty plus the internalization cost, et cetera, on the price. This is... This is logic. We see that China is at a sustainable level of price because at this price, all the operators in China, we are sure, are negative. And some announcements are confirming that. So it is a question of when China will rebound. Let's hope it will be very soon. Thank you.

Our next question comes from Mateen Cogg of OdoBHF.

Yeah, good morning. Sorry, I joined a bit late, so I don't know if this question has already been asked, but the first one is on alloys, where you had a very decent performance this quarter, and I was wondering whether you were still on track to achieve your guidance of increased EBITDA this year versus last year for the division, given that, I mean, year to date, you're still tracking below last year. and whether you were also online to achieve double EBITDA by 2025. So that would be my first question. And the second question is about the marketplace in Europe. We have four players right now. There's a lot of overcapacity, apparently. So do you see this situation with four large players as viable in the long term, or would you like to see some consolidation?

Okay, so first it is a clear yes, we are in line with our plan, and we are very satisfied of the progress of the alloys. There are some few inventory effects in the results, but they are fully in track, and we are sure that by 2025 they will have doubled their BDA, knowing that all the projects are proceeding very well, and we are, as I repeat, very well in track. On the second, overcapacity in Europe, no, I disagree. There is no overcapacity in Europe. There is a temporary lack of demand. There is an industry which is facing the stocking phase, which is facing a decrease of demand. And on top, I said before, we are in a context in which when prices are decreasing, Nobody calls for new order or supply, and they wait for the very short term, being sure that with the lower utilization rate, there is the possibility to have short-term supplies. If you are referring to the fact that there is a lower utilization rate in Europe today, yes, because demand is lower. But at a normalized level of demand, a normalized level of the imports, which is important to be said. Imports are not high and will not be high because the protection is much higher. The capacity in Europe are well under control. There is no overcapacity.

Okay, thank you.

And as there are no further questions at this time, I'd like to hand the call back to Tim DiMello, CEO, for any additional or closing remarks.

Okay, thank you very much. As usual, very interesting question. The times are challenging, you have seen, but for the moment we have successfully managed the situation and similarly to this, even in other moment before this quarter. We are facing a tough Q3 that should also mark the tough. The foreshort are visible already. We have an experienced leadership team, and we are aware of what is expected of us, and we know that cost improvements and further value chain amendments are part of the solution. We will therefore realize the 300 million EBITDA improvement to 2025 and further differentiate our supply chain. I wish you all a nice and relaxing holiday and hope to see you in September when we are back on the road again. Thank you very much, and have a nice day.

And that does conclude today's APRM Q2 results conference call. We thank you all for participating, and you may note.