Q3 2022 Azul SA Earnings Call
$268 million.
Our adjusted EBITDA of 216 million represents a margin of 22, 3%.
<unk> margins.
We have achieved.
We generated $114 million in free cash flow, which was an increase due to higher earnings less capital spending and a reduction in working capital.
This strong performance demonstrates our ability to continue to deliver on our investment thesis.
Our teams performed well creating value for all of our stakeholders.
Now John Sims to discuss our third quarter performance in more detail John .
Thanks, Michele good morning, everyone.
Let's turn to slide seven please.
As <unk> said earlier, we earned $260 million and adjusted EBITDA in the third quarter.
This is a 160 basis point improvement and was driven by $60 million in price and mix improvements as realization of price increases exceeded our outlook and we continue to drive mix optimization.
Volume increased slightly by $3 million with stronger shipments in Latin America, and North America.
Our order backlog was strong in all regions in the quarter.
We also had a slight increase in operations and costs, which increased by $3 million.
We spent $14 million less on outages in the second quarter and we successfully conducted the planned maintenance outage at our mochi will assume mill.
Input and transportation costs increased by $46 million as costs for energy fiber and chemicals continue to increase.
Okay.
Let's take a look at our regional results on slide eight.
Each region continues to perform very well demonstrating the strength and resilience of our talented team's iconic brands.
And low cost mills, as well as favorable industry conditions.
Each region benefited from realizing price increases, which offset escalating costs and inflation.
Our volumes remained strong in all regions and we continued to outperform the industry shipments.
We operated well in all three regions.
Input costs and transportation availability remains under pressure.
And we've seen some relief and truck availability in North America.
But obtaining adequate rail service continues to be a challenge.
The appendix contains additional details on our regional performance, so let's turn to slide nine.
In the third quarter uncoated freesheet industry fundamentals remain favorable across our regions.
Demand in Latin America, and North America continued to rebound from pandemic levels.
While demand in Western Europe declined by 2%.
Which in part was driven by the lack of supply in Europe .
Relative to 2019.
<unk> 2022 year to date imports were about flat in western Europe , and down about 20% in each of the Americas.
And at the bottom row shows capacity is down 10% to 20% in our regions relative to pre pandemic levels.
The cost curve in Europe remains quite steep with more than 25% of the capacity.
Okay.
Okay.
Okay.
Paul.
Yeah.
Yes.
Yes.
Generate.
Energy.
The competitive advantage.
Okay.
Okay.
Yes.
Okay.
Okay.
10.
Not only do we operate in the most attractive regions.
We continue to win with key customers.
We also continue to optimize our product mix and increase our positions in high margin segments.
We are growing with key customers for example, we expect to increase our <unk> volume.
With the strategic retail customer in Latin America by 25%.
And in all regions will continue to focus on the evolving needs of end users.
We are optimizing our mix for.
For example in Europe , we will increase our brand mix to 50% in 2022 versus 30% in 2021.
In North America, we are optimizing our portfolio to ensure it aligns well with our channel partners and consumer trends.
Furthermore, we are updating our business practices.
So that we are adequately paid for the value added services we provide.
And we are segmenting our service levels.
And we are growing in high margin segment. For example, we continued to expand our e-commerce presence in North America.
Our commercial efforts.
Our commercial excellence efforts, driven drive higher volumes and margins increased customer loyalty and allow us to perform outperform industry demand.
Now back to XOMA software discussion our recent moves in Europe .
Thanks, John I'm now on slide 11.
First some perspective on the recent divestiture of our Russian business.
After the invasion of Ukraine, we made a principal based decision to exit Russia.
In October we sold the business and received $390 million in net proceeds.
The divestiture of our Russian business allowed us to avoid a $220 million recovery by the project.
First our exposure to the most cyclical market pulp segment by 30% and.
And significantly decreased our geopolitical risks and uncertainty.
Completing the deal also eliminated a major distraction for our management team, which is focused on our core business.
Let's move to slide 12.
We are taking it.
[noise].
Yeah.
Bob made upgrades that would be mostly completed before we take ownership of the myth.
As you might imagine we're excited to add this meant to our European business in the first quarter.
Slide 13 please.
Okay.
The pneumonia is one of the largest integrated uncoated freesheet mills in Europe .
It is 85% energy self sufficient and a strong environmental practices.
The mill produces multiple grids for cut size business towards digital papers and offset papers.
It produces iconic brands that fit well with our strategy.
Let's move to slide 14.
The Newmont a mill is an excellent fit with our street branch strategy of commercial excellence operational excellence and financial discipline.
In addition to the complementary uncoated freesheet product mix and iconic brands the mills maintain strategic channel partnerships and a complementary geographical mix.
It also has a customer focused culture and share values with our company.
The mill is low cost and in an attractive location.
It fits well within our portfolio and strategy.
This purchase price.
This represents an attractive price and we expect more than 20 million in synergies and that incentive rate.
Return greater than 25%.
The deal will be immediately accretive to our earnings per share free cash flow.
Let's turn to slide 15.
Yeah.
Using the last 12 months of adjusted EBITDA.
End of June the transaction multiple is two and a half times.
And is expected to be below two times after $20 million in synergy, including Department project previously mentioned.
We estimate 15 million onetime cost and capital to achieve the synergies and 14 million in information technology transition services and other integration costs.
We look forward to closing as soon as we received the required regulatory approvals and to welcoming new colleagues to <unk> as soon as possible.
No back to John for a discussion of our fourth quarter outlook and revised investment theses.
Thanks, Tim Brazil.
I am now on slide 16.
In the fourth quarter, we project price and mix to improve by 30% to $35 million as we continued to realize prior price increases in all three regions.
We expect volume to be flat to decreasing by <unk> five.
$5 million.
With seasonally weaker volume in Europe , and North America.
We project the operations that caused the increased by $35 million to $40 million driven by seasonally higher costs in Europe , and North America Foreign exchange impacts in Brazil.
And an increase in incentive compensation accruals.
We expect input and transportation cost to be flat to increasing by zero to $5 million largely due to higher energy and input cost inflation.
Maintenance outage expenses are projected to increase by $21 million as they conduct two planned maintenance outages.
This will be our heaviest planned maintenance outage quarter of the year.
All in we expect to deliver fourth quarter, adjusted EBITDA of $180 million to $190 million.
Which would put us slightly below the low end of our full year guidance of $740 to $780 million.
This change is largely driven by the increase in foreign exchange impact on our Brazilian earnings.
And compensation accruals, which were not included in our previous guidance.
We expect fourth quarter earnings per share of $2 <unk> to $2 25.
And we expect free cash flow of more than $25 million for the quarter.
Which increases our full year outlook to greater than $210 million.
The appendix contains additional information on our fourth quarter outlook.
Also appendix slide 37 shows that we have reduced our outlook for 2022 capital expenses by 20 million to $155 million.
We will be unable to complete certain projects in 2022 days of supply chain constraints and contractor delays.
We project spending this $20 million in.
In 2023.
Slide 17 shows the three pillars of our capital allocation framework. This is how we think about allocating cash to create shareowner value.
At the time to spin off we prioritize debt reduction and returning capital spending to the levels necessary to maintain our mills.
Now that we've reached our $1 billion debt target, we're putting greater emphasis on returning cash to shareowners.
We remain a cash flow story.
We will leverage our strength to drive high returns on invested capital and generate free cash flow.
And we'll use that cash to increase shareholder value by maintaining a strong financial position returning more cash to shareholders and reinvesting in high return projects in our business.
Let's move to slide 18 to review our fortified financial position.
Since the spinoff, we've reduced debt by more than $560 million.
We repaid the initial amount drawn from our revolving credit facility and are entirely repaid our term loan b.
Also we renegotiated our credit agreement to raise amendment to the restricted payments prior to the final settlement of the Brazil tax dispute.
So there's no now match the terms of our bond agreements.
Under the revised agreement our annual restricted payment limit was increased to $90 million from $75 million as long as our gross debt is less than two times, our adjusted EBITDA.
Currently that ratio was less than one five times.
Appendix Slide 34 provides more details.
As a result of reducing our debt.
Our annualized interest expense will decline.
By more than $20 million at the current interest rates.
Note also that our pension fund remains well funded and more than 95%.
So as you can see we head into the second year with a strong financial position.
Back to us on the sale.
Thanks, John Slide 19, please.
We are well positioned to create value for shareowners.
We reduced total debt significantly and $128 million in 2022 spinoff related payments will not recur next year.
Returning cash to shareholders is a core component of our investment thesis.
We started by paying $10 million in dividends this year and by establishing that authorization to repurchase up to $150 million of chaos.
I am pleased that today, our board has approved an increase then more than doubled our quarterly dividend to <unk> 25 per share.
Effective in the first quarter of 2023.
As John discussed we continue to reinvest in our business to increase returns on capital and generate free cash flow.
This includes our investment in the new Millennium and now return catch up project.
We're investing in our business to increase our cost competitiveness and to remain the supplier of choice.
I'm grateful for our talented and engaged colleagues and their dedication to working safely.
Delivering on our promises to customers and for creating value for shareowners.
We remain committed to creating value for all of our stakeholders and our confidence in our ability to achieve our vision of being the employer supplier and investment of choice.
With that I'll turn the call back over to Hans.
Thanks, John Michelle and thank you John Okay, Lois we're now ready to take any questions.
Thank you and people like to ask a question one and then.
Zero on your telephone keypad, if you would like to withdraw a question. Please press one zero.
We would like you to limit.
Your question.
The one question and one follow up. Thank you again that is one thing Sara for a question.
And we have a question from Ed Brucker from Barclays. Please go ahead.
Thanks for taking the call.
I'm just trying to.
First one.
Alright.
Okay.
And on the lower end.
Yeah.
The original guidance.
For the quarter was strong.
Fourth quarter.
Two I was just wondering if you are.
A little.
<unk>.
Kevin.
On top of that.
How do you expect.
Given the uncertainty.
Our go forward outlook for it.
Berger.
Great.
Yes. This is John .
Yes, as we mentioned.
Our guidance puts us on the low end of our full year guidance, but that's really driven by FX.
FX impact we are seeing.
Strengthened so that's kind of question, but where that ends up.
But also it also with floods.
The fact that we've had to take an additional accrual on our incentive plan just to remind everybody on the call.
Really target our incentive plans to match up with.
The interest of our shareowners is driven by EBITDA margins and free cash flow and the increase in the incentive compensation is the fact that strong cash flow that we're generating this year and I think that's a testament to the focus that we have on free cash flow.
In terms of being conservative everything yields essentially continues.
As we had thought.
The fourth quarter that meaning.
The price increases that we've been able to realize from our prior price announcements.
Come in those are more than compensating.
The input costs and.
And in fact, we're seeing input costs.
Flatten out across all the regions.
Certainly at elevated level and at a high level, but we feel going in it's hard to predict.
2022 is going to be I mean, given.
Some of the uncertainty we have.
Hi, everybody.
I think can read about but one of the things we feel very good about it.
Is.
Our exit rate in health.
We positioned we are from a balance sheet perspective being at $1 billion of debt.
And also from where we are from a margins earnings and.
<unk>.
Order backlog and the strength that we have with our customers and our positions in all our markets.
Got it that's helpful. Yes.
Okay.
That's right.
You've done with the balance sheet I guess next question.
About that.
Hi.
We're thinking about.
The leverage target through the cycle or yes.
I guess I'm, Max leverage you'd be willing to take it up given your capital allocation priorities.
That's shifted a bit given that you have pay downs. So much debt just trying to get your thoughts on.
Where leverage kind of.
It's in there.
Well, we said the $1 billion target because we felt that that.
What would allow us to continue to invest.
The cycle and high return projects into the business and are continuing to improve our business and also return cash back to our shareholders.
We will continue to have to pay down some debt because with amortization requirements for the term loan apps that we do so in terms of your question is with the Max that we would go I think we were comfortable in saying, what we want to be is that that $1 billion or slightly less.
And we think that's that's very good position for us to be and to be able to execute the rest of our.
Our strategy.
Great Thanks for that.
Thank you and once again, if you do have a question. Please press, one zero and well move to the line of Ryan That's life.
Rich. Please go ahead.
Okay. Thank you.
Last year on your fourth quarter.
Going into the fourth quarter, you expected operations to hit.
$15 million because of normal seasonality.
So could I assume.
I realize energy expenses are up from last year that all of your guide 35 to 40 more in the fourth quarter about half is normal seasonality and a half is the incentive accrual.
Ron This is John yes.
Incentive.
But it's also the FX and FX with the incentive accrual and you're close.
Close to that 50% of that.
Cost is driven by those two items.
So.
Tom.
Going to the next quarter well that was the incentive accrual, let's assume is are they roughly equal.
That was the incentive accrual or to go back to.
To some normal level I realize you are under a booking earlier in the year, but the extra accrual.
To go back and I guess, the FX you would just hope to be flat, but roughly the incentive accrual would it be in the 10 billion range.
Yes, $10 million, correct and $5 million or so for the FX.
Okay.
And secondly, we're going to be way way under the leverage that you are looking at by the end of next year I realize you have a 150 million going out the door, but you generate so much free cash.
Is there.
Claude to renegotiating the terms on the agreement or really what youre going to do is deploy it and see if we could get more.
I'm going to pronounce this wrong.
Yeah.
Ron I guess, we're looking at.
You earlier, we're looking at the options in terms of.
What we can do from the bond perspective.
To get more room on the restricted payment terms. So we're analyzing that right now.
And let me just add another tier.
Comment.
The acquisition is not core to our strategy. We've said that previously we also said that we will opportunistically look at acquisitions that make strategic fit with us.
And that certainly was the case in the new model perspective.
Maybe I can add with Qantas xiaomi chassis around.
No that we've reached our $1 billion debt target.
And as John mentioned.
Numerous hours are probably very unique opportunities, which is not core to our strategy, but what is quarters, Australia is to returning cash to shareholders and it has become even a higher priority for capital allocation. So that's why we increased dividend we more than doubled.
And at current share price repurchasing share it's very attractive.
So maybe you might ask why we haven't done it before.
As you might understand in third quarter, we have blackout due to material nonpublic information, we had Russia, where pneumonia the third quarter earnings.
So really we back to distributing cash to shareholders is really a high priority right now, that's where I would put in product.
Can I follow up one quick one on that.
The $90 million a year you haven't done any this year could you sort of reached corn in the fourth quarter, because the $90 million starts again for 2023.
We don't 10 million in dividend.
94, this year and then it started again 90 million on January one.
So you have lots of room to do it in the fourth quarter this year.
We do.
Okay. Thank you.
Youre welcome.
The next question is from Paul Quinn from RBC capital markets. Please go ahead.
Yes, thanks, very much morning, guys just on the increased brands in Europe .
30% to 50%.
Let's see what's the margin impact on that and then what happens with the addition of the Sweden mill.
Yeah.
Well, we don't.
John we don't want to give specifics on the.
The margin difference between the brands.
We do get.
There is a margin increase in years three minutes will drive that but there's also other benefits as well.
And most of that you can think about in terms of brand in more sticky with customers.
Barriers to.
Both imports and also the competition and so there's also other values in terms of increasing our brands that we were able to realize across all regions.
And concerning pneumonia.
They have also a strong brand, which is called multi coffee.
So on the <unk> side of the business.
It's going to continue to be so.
<unk> strong brands approach.
And the other thing that.
<unk> brings to us that we didn't really have with the <unk> mill is strong brands and the commercial printing and forms.
Business.
An increase.
Market segment for us and opportunity for us.
To really leverage that.
Okay and then just.
Maybe you could give us a little bit more color on this $40 million pulp mill upgrade it more as well as a.
When you take a maintenance and at Sally.
So.
I'll answer your second question.
18 months, so we won't have any maintenance.
But we want to have an annual outage. This year. So it will be next year around April time frame I believe.
And in terms of <unk>.
<unk> the mill modernization project.
This is being completed.
Mostly completed.
By store this year. So all of the benefits will begin to accrue to US next year. When we finally do take ownership of the mill.
And what they've done is they've upgraded the back end of the mill specifically two areas as a new digester is increasing.
The ability to put these softwood pulp.
And further expand the capacity.
<unk>, there and also in OTT.
Deep lignite occasion, which will reduce cost.
So just wait.
The mill is.
Somewhat of a different.
[noise] pulping process than our other mills at the sulfite process, increasing softwood pulp consumption and production is a positive for that mill and that's what this mill.
Upgrade does.
Okay. So just laughing decided upgrade effect.
The production.
Gotcha.
500000 tons.
No.
What it does increase the pumping capacity and so.
You have to buy less.
Open market.
It's not open.
Open market tons.
Pulp whether I'm sorry.
Okay. So thanks for the question how much are you buying it now how much is that they'll purchase on the open market right now.
What's the self sufficiency on the pulp side.
Pre and post.
Pulp mill upgrade.
Is it buys.
Yeah, It doesn't buy a lot of Logan pulp hardwood pulp.
For the product grade and this upgrade now allows us to substitute that with software that we can source of fiber in Sweden.
Alrighty, Thanks, very much that's why.
Yeah.
Thank you. The next question is have Adam Ritzer.
Please go ahead.
Hi, Thanks for taking my call I just had one quick question you guys gave kind of a pro forma debt number after the Russia sale.
What 957 I think it is how much cash are you going to have on a pro forma basis after the sale.
After the sale.
I'd have to think about.
Maybe we ought to get back to you, we'll probably be.
And about 100 million dollar range.
Well, let me.
Let us get back to you on that.
Well, if you had 390 and proceeds from the sale and you paid down about <unk> 70 of that.
That difference add to the cash you had at the end of Q3 is that the right way to look at it.
That's the right way to look at.
Okay. So you could we could talk about later, okay. That's all I wanted to ask thanks very much.
We're using cash to pay for the NIM Ola mill.
Right, but that's not going to be till Q1 right.
Right yes.
Yes.
I gave you.
Subtracting the.
Paying for the new <unk> mill that cash because that we're expecting to hopefully close that early in the first quarter.
Right. Okay right. So you can take that cash minus the 150, assuming that plus whatever free cash you generate in Q4, okay understood. Thanks very much.
Okay.
Thank you I'll now turn the call back over to Dr. Smith for closing comments.
Thank you everyone for joining our call today. We appreciate your interest in <unk> and we look forward to continued conversations in the coming days weeks and months ahead have a great west of your day and a great week.
Once again, we'd like to thank you for participating and have our third quarter 2022 earnings call. You may now disconnect.