Tapio Kuula - President & CEO
Juha Laaksonen - EVP & CFO
Martin Young - Nomura
Neil Beddall - Barclays
Ingo Becker - Kepler Capital Markets
Lueder Schumacher - UniCredit
Per Lekander - UBS
Fortum Corporation (OTC:FOJCF) Q2 2010 Earnings Call July 16, 2010 9:00 AM ET
Thank you and welcome to our conference call. We are here together, my name is Tapio Kuula and I have here together here with me here as well our CFO, Juha Laaksonen. And this is the report covering the first six months of 2010 and I hope that you have material available for you. And I will first start with overall report and then Juha will continue and then I will look at the future prospects, and after that as usual questions-and-answers.
Page number 3; you can see that we feel that the business environment is improving. There are clearly some positive signals especially from industry and you can see that the Nordic area, the Nordic power consumption has gone up by 6%. Still we are about 10 megawatt-hours behind consumption in 2008.
Also Russian power consumption has increased, increased by 4% and also positive price development. We will come back more in detail to that later. Spot prices have increased in Nordic area and forward prices have been pretty stable, and you can see the price development on next page, page number 4 and clearly the big difference between spot prices and forward prices.
If we turn to page 5, we can say that these first six months we are satisfied. The second quarter wasn’t probably as good as the whole six month period, but anyway the comparable operating profit was close to EUR 1 billion, EUR 990 million. We had lower hydro and nuclear volumes, of course you know that the hydro reservoirs have been lower and the nuclear volumes were lower because of those upgrade projects, especially because those upgrade projects in Sweden took longer time, and of course when they took longer time also they cost more. So in that sense there were two different consequences, negative consequences for the less volumes and higher costs. In the Russian division in this adjacent segment and in this division we have clearly positive development and of course we also have got some positive translation, fx from the Swedish Krona.
And our earnings per share has increased; now we are on the level of EUR 0.93 instead of EUR 0.78 last year and of course this is positive news for our shareholders. This includes non-recurring items about EUR 50 million.
Net cash flow from operating activities is lower than last year and this is due to financial items and realized foreign exchange, losses and Juha will come back to that more in detail.
Page 6, if we compare the comparable operating profit which is probably the most relevant figure to be compared, we see that we are slightly on a lower level than last year but overall of course one can easily see that this is pretty stable development.
And if we mentioned on list really some key events and highlights on page 7, we can say that clearly the development in Russia is well on track concerning the Russian economical development, but is especially if we look at what has happened in the sector, the power reform is proceeding as planned exactly in the beginning of this year. Our wholesale market was expanded from 50% to 60% and now in the beginning of July from 60% up to 80% is now open for competition and this is exactly in line with the original plan.
And probably even more important for us is the new rules and parameters for capacity market for new capacity which was decided in April and of course one can say that we can be very satisfied with that development both time wise and also concerning the substance and quantity.
Overall Fortum is very environmentally a friendly company; about 86% was now CO2-free production in Europe. This is slightly less than in previous year and really the reason being that now during the beginning of this year especially partly even during the second quarter we were using and producing electricity, using a cold condensing power plant, Inkoo and Meri-Pori. But even if we take into account the Russian operations about two-thirds of our power generated, our power generation is CO2-free.
Page 8, we have listed power consumption development in different countries and in different regions in Russia, and of course here you can see that the development in Nordic countries, especially Finland and Sweden and Norway, Denmark is of course not that big, practically in Nordic countries concerning electricity consumption has been positive.
In Russia, Tyumen area which is an oil and gas production area has been throughout, the financial price is very stable concerning power consumption and so it seems to be also now so no major differences either way. But in Chelyabinsk where we have about one-third of our business activities there has been significant increase in power consumption and this is of course mainly heavy metal industries, steel industries, et cetera.
On page 9, we can see the current water reservoirs and if we calculate, also snow reservoirs as they are estimated, we can say that today we are about 18 terawatt-hours below average, statistical average. And if you remember when we announced our backlist our first quarter results at the end of April, the deficit was about 30 terawatt-hours or a bit probably more than 30 terawatt-hours. So the deficit has in that sense decreased, but still really big deficit.
Commodity prices on page 10, there is no big surprises. There has been a slight trend upwards, but no big differences. Then on page 11, we have gathered together a bit about history what has been the price development concerning the Nord Pool. Spot prices during different quarters and what has been the power price which we have achieved in our power division and of course you can see that because of our hedges previously we have been able to achieve better price clearly than the spot price.
Now the price which we achieved during the last quarter and quarter number two was clearly lower than last year and now we were very much on the Nord Pool spot price. In Russia, the upper picture indicates that the the wholesale power market development and there you can see price trend upwards as well as the development during between quarter two this year and last year plus 28% and now it’s good to remember that this part of wholesale market covers from the beginning of July 80%. And 20% this is regulated power market and from the lower picture you can see the price development there which is also positive and clearly on lower level than the open wholesale power. And now Juha will continue with financials.
Good afternoon ladies and gentlemen, and it is coming from a very warm I think it's a record temperature. On the power division of course it's the most important division in Fortum and in the first six months produced comparable operating profit about 700 million which is a good achievement. If you look at it from a half year basis we have a change in the generation mix compared to last year we had lower hydro nuclear volumes and higher thermal generation and of course we run thermal when the profitable run but the margin on thermal of course in not that high as it is in nuclear let alone hydro.
In the second quarter we can say that we have the same effect but then there we had more nuclear but also more thermal and some less hydro. So it would affect positive difference but then again nuclear is more expensive than hydro and thermal added nuclear gain from Sweden where we have a higher quotes.
So we suffered in the second quarter from this mix effect also compared to last year, thermal division second quarter performance was also influenced of course by this price development we had EUR 3.2 per megawatt less a cheap price than last year. In the first quarter we could compensate the mix effect by higher price and now we had lower price, so these together affected the result. And as Tapio said when you are basically in Finland in the melting season and some of the spot prices are pretty low and we cannot have that many hedges from beginning of 2008.
We come closer to the market in the achieved price. Then on top of this when we had five more quotes from the Swedish nuclear companies because they are in this upgrade program and we also have more than 10 million special cost associated with the Loviisa plant but that closed then was a nuclear liability booking. We are usually taking this later in the year this is the first time we take it in the second quarter when we update technical calculation for nuclear liability.
Basically we have a three year it might add cost because we also adjust backwards on the waste fuel liability. We have that about 10 million in the reserve this quarter. It's coming back on the income statement on the IFRS because we still have more from this nuclear liability funds so whenever our liability increases we actually get the benefit because we can take assets outside of the balance sheet to the balance sheet.
So these are basically the reason why the second quarter was not as good as last June. Net assets increase is basically only the through this Swedish Krona strengthened. Next page 14 nothing really special there, one is going to the right direction, volume are growing, we have two new planting operations this year and two new will commence late this year and the investment program for this effecting the results.
Distribution same thing a good first half mainly because of first quarter first quarter the second quarter was on the similar in the third quarter we could enjoy higher volumes because of the exceptional winter and here again the net assets go up because of the stronger Swedish Krona. Electricity sales in the next slide six months still negative in the comparable operating profit but a very good second quarter you can say exceptional second quarter EUR 10 million positive comparable operating profit which is very high for this business.
But of course we are going through the right direction and continuing sorry, on the restructuring now in the business market segment. Continuing to Russia, Tapio already commented we are slowly but surely moving ahead in Russia to the efficiency improvement program but also capital expenditures now increasing because now we are in full flight concerning the investment program. We have now security of the capacity payments and Russia economy is developing fine so we can see those growth investments that we invest now more on the investment program the new approach.
The next page that's a short reminder of comparable reported operating profit and they can go one way or other the (major being Seattle) those are non-recurring items, for valuation of derivatives, these booking which don't hedge counting and then these nuclear liability relative booking or nuclear bookings and this quarter compared to last year we had a comparable operating profit was EUR 60 million lower than (other) and a comparable operating with a EUR 60 million lower on (inaudible) operating profit only 20 million last quarter.
And of course, that’s when we called the income statement of 18, 19 and 20 million is effecting the income statement. It's really straight forward. Both the quarter and the fixed mark on the quarter, that is exceptional and the financial expenses are shared of profits of associates, tax rates on the same level, so the difference comes from the (ISRS) operating profit on EPS.
But that being said, six months EPS and net profit and developing finance in the last 12 months which is now 162 level, so quite good development. On the cash flow statement, that period is straight forward except for the fact already mentioned which we also told in the report when we hedge our lending to Sweden, the fact flows in euros usually and then convert to lending and in Sweden is Swedish Krona and we hedged on a rolling ball basis these exporters when the Swedish Krona strengthened, we loose when going forward when it weakens, we gave it that happened last year, we I think six months gained about EUR 377 million and now EUR 290 million negative. So year-over-year, more or less equal out, we are on the positive sides of the difference between two quarters for two and half years is significant and that shows in the numbers.
If you eliminate these things here more or less on the same level or little better actually in the cash flow of this year. But here again you see capital expenditure increase from last year.
Finally on the key ratios you see the interest bearing net debt going up that of course is because of the dividend payment. We paid EUR 901 per share dividend, EUR 888 million and that has approximately amounted to well at top it also affected net debt EBITDA gone now to 2.7, on the last 12 month base, but the EBITDA is 2.4 and these ratios are very good. Still we balance this out EBITDA equity up so from a capital structure balance sheet point of view we are well off.
And also from debt maturity profile point, while we don’t big maturities, we have some CP but the market is functioning very well and we will roll them over in due course. We have still more than EUR 600 million of cash even after paying out the dividend payment of close 3 billion of committed backup facilities. So from a balance sheet funding liquidity point of view, the company is fine, that is not the restriction to basically do what we want to do. And that’s for the financial part and Tapio back to you.
Okay, thank you. And we move to the page number 24, so we can see that actually market doesn’t expect any major changes concerning fuel prices or Co2 allowance prices. Slight trend upwards but no significant changes and then if we look Nord Pool forward for coming years as I already said that for sometime, these forward productions being price wise very stable and it seems to continue like that a bit upward trends when we look at years further in the future.
And then next page, page number 26, Fortum’s hedging position rest 2010 we have increased slightly. Now we have 80% hedged with EUR 44 per megawatt-hour which is the same price level as last time. 2011, we have been able to increase the average price level by EUR 1 per megawatt-hour being 44 which is actually very exactly also the forward price which is currently not on Nord Pool forward price for 2011. And we have increased our (hedged wager) from 45 to 60 and the 60 as you can recall I would say pretty much normal volume and (hedged wager) at this time of the year for coming years.
Then page 27, we have collected a bit, statistic about our hedging and there you can compare spot price and what has been a power divisions, a cheap power price and of course our main target with the hedging is to get good price but in addition to get good price or so to increase credit ability as well as to stabilize also our results.
And as you know, there is quite a lot on going concerning new capacity both in Europe especially in Russia, we have already started two CHP power plants and two more to come just to combine Poland and Parnu in Estonia and then one can say that like business as usual we also increased our hydro power production every year in average between 20 and 30 megawatts and that is ongoing this year as well.
But in Russia especially we, a lot is ongoing and from that 2300 megawatt investment program, 650 will be commissioned this year and that 650 will then be then able to get also that new capacity payment from the beginning of next year.
So page 29, indicates which we feel strongly that Fortum is in a strong position, this was good hot six months and of course we have flexible, cost efficient and environmentally friendly generation portfolio that we can be satisfied with the Russian development both economically reform and our old activities Nordic Power market is also seeing to be recovering because of positive development especially energy intensive industry and as Juha told, we are certainly in strong financial position concerning the structure or currency as well as liquidity. So, these were those presentations we have prepared and now we are ready for questions, please.
Our first question comes from Martin Young from Nomura. Please go ahead sir.
Martin Young - Nomura
Yes, good afternoon to everybody, just a couple of questions. The first relates to the power generation business in particular the cost. Could you be a little more specific about how much of the second quarter costs were actually of a one-off nature and how much of those will actually be there on an ongoing basis I think with particular reference to the higher cost from the Swedish Nukes that you mentioned.
And then my second question relates to the favorite topic of the Windfall Tax, obviously we've seen significant increase in political risk coming out of Germany and the same can be said of Spain.
What's the latest on the Windfall Tax and how nervous are you that given what's happened in other countries that the Finnish Government will seek to position the tax at the upper end of what has previously been communicated? Thank you.
Okay, if I start with the power generation costs, as Juha already told those EUR 10 or EUR 11 million special costs from Finland concerning the usage of fuel, as well as Loviisa 3 power plant project there which is now over in that sense that we didn't get the decision in principle license, and of course now we have really right down those quarters which are related to the Loviisa 3 project.
But then the (quote) especially from Sweden and I would say that the main additional (quotes) comes really from those upgrade projects which have taken longer time than anticipated and of course because that longer time they have also produced less nuclear power and in that sense the unit cost especially have been higher because of less volume and higher costs. But we haven't or we are not planning to publish the exact figure, but of course that is quite a significant part, those additional costs related to the second quarter. And then also of course remembering that there are no surprises that now the production mix is different than in average.
And that of course affects the core space also, but maybe one could say something like that old company. If you take it as a benchmark the EUR 70 million, this is an operating profit that maybe you are in the land of 20% of that difference in those core companies than 50% of (inaudible) so it's not that much big number in general without going into details, but one has to remember on the long term we have more operational costs and other costs and not running thermal, and thermal we'll run when the option is favorable and is by (inaudible), so that is relating to the volumes of them.
On the Windfall Tax, we have had discussions in Finland about taxes concerning heating, but there’s nothing mentioned about Windfall Tax. So there is no new declaration or announcement by the government, and we have said many times earlier the government or the officials, all having difficult with the legal setup because this is the implementation with exceptions is very, very difficult because they say how that would come out, it's not off the table, but it's neither implemented though there is no turn table or whatever. So, it seems that there is some struggle in trying to find any sensible way of implementing that one. So I know its application, but right about now in this but certainly there haven’t been that kind of discussion in the Finnish, Finnish media or political circles that’s at least that we would be a bird and I think we will be aware because of Germany, Spain, or whatever, maybe on the contrary. We have in Finland a general problem of finding some tax revenue, but that’s being brought a pure centric I had discussed than anything else. So, here we are.
Does that answer your question Mr. Young?
Martin Young - Nomura
Yes, it's great, thanks.
Our next question comes from (Benjamin Larry) from (inaudible).
Thank you, yes. First question is what is your best guess on the restart at full operation auditions of the Swedish nuclear plant? And second question is, can you give an estimate of capital expenditure for 2011 please? Thank you.
Yes, first question concerning the start of the Swedish nuclear power with full capacity, we can’t really comment that part. There is most up to date information on the North Pole side, because their companies have to give that update information everyday when they get some more information. So, if you have difficulties to find that from the North Pole sides we would help you. And then the capital expenditure…
On the capital expenditure on 2011, we have said in our report that the range is EUR 0.8 to EUR 1.2 billion except for 2010 where we currently estimate around EUR 1.5 billion as we have already said a bit earlier in the result of 2011, it should then be interpreted to be in the range.
Our next question comes from Neil Beddall from Barclays.
Neil Beddall - Barclays
Thank you. Just about three very quick and hopefully very simply questions. The one was just regarding the statement you put in your report about under the heat section about taxation potentially being increased by about 400%. And I just wondered if you can confirm whether or not you think you are going to be able to pass through that additional cost so that you are going to be able to maintain margins and cash flow coming through in that heat division. The other one I just wanted to get a bit of clarity on, you’ve mentioned about Russian liberalization proceeding and capacity payments being agreed. Just wondered if you could, on what do you expect the capacity payments so that you will be receiving on your generation fleet over in Russia. And then finally, just looking at your sort of debt maturity profile and also the higher level of CapEx is about EUR 1.5 billion, I just wonder when you are sort of thinking of coming to the market to bring in through the bond issue, so are you happy to place sort of (inaudible) market conditions to what you anticipate coming a bit sooner than that?
Okay. If I start with the first question, and really the few tax issue concerning our heat business end of course the taxed for proposed or planned actually specially for natural gas. That is the major thing. First of all, I would remind that, that is still a proposal and in that sense I think that, that will be thoroughly considered. And we have actually, natural gas use it in Espoo and with the newest Suomenoja power plant, and that is actually the only place where we significantly use natural gas. And of course, if that would be applied our intention would be to get taxes through to their prices but it is difficult to promise that we would get that immediately in full effect. But we try to be transparent and really inform about those discussions on calling.
Then the Russian capacity statements for new capacity which is significant for us in Russia, really the Russian intention or Russian authority’s intention is to secure with that capacity payment enough good returns on those investments to make sure that the capacity program will materialize and as they have calculated, the returns which they have planned for the coming 10 years period has been and that can vary a bit but I would say that, that has been in the range between probably 12% to 14%.
On the debt payment all possible issuance, I don’t think the investment program as such is not the driver because we have ample cash liquidity but we updated our documentation after the first quarter, but then in May we have a big disruption in the market as you remember, so we have moved every thinking after the second quarter. But it is probable that we might, we might touch the market in this year or maybe after we have no properly (inaudible) and how that’s another question, but it is probable. Put forth depending on the conditions in the markets, but with that now we are confidently getting quite okay at least the overall cost is not globally that high.
Neil Beddall - Barclays
Thank you, Juha.
Now we move to Kepler Capital Markets, Mr. Ingo Becker, our next question.
Ingo Becker - Kepler Capital Markets
Yes, thank you. Good afternoon. I have two questions. The first would be on Russia. Profits are growing but it appears at least not a very far place, you made 22 in the first half after 16 in Q1 implying 6 million in Q2. We know this is one of the weak quarters for Russia but I was wondering if you could give us an idea of how your 100 million cost cutting program is feeding into results?
My second question is a bit of a hypothetical one, there had been the idea of an auctioning out of nuclear capacity when plants get expanded in Germany. This idea has been voiced yesterday by the government but they kind of missed this out, it might be picked up again at a later stage.
Just in theory, what Germany auctioning out its lifetime extensions for nuclear facilities and in theory if you would be obliged to a bit, is this something you would in principle be looking at it at all or not at all? Thank you.
Yes if I start with the last one because it's easy to answer that we don’t really comment at this point of time that’s kind of speculative. If that comes through, lets wait and see, but the Russia and a question about the efficiency improvement program, as we have stated that 100 million efficiency improvement 2011 we feel that we are well on contract and it is exactly as you said that the second and third quarter, they are weak in Russian business because of very strong seasonality and then if we look at really the future prospects as I indicated and as we have indicated before of course the significant improvement that will come from the new investments, new capacity and they are really the new capacity payments, they will play a significant role.
We'll now move to our next question Mr. Lueder Schumacher from UniCredit has our next question.
Lueder Schumacher - UniCredit
Yes few questions, one is coming back to the Swedish nuclear outages, perhaps just trying to quantify a bit further. I mean we know the upgrade programs at Oskarshamn and Forsmark led to lower load sectors over the quarter. If we assume they run probably at about roughly half the normal load sector, but I thought that the EBIT impact just from the last nuclear volumes would be somewhat in the region of EUR 25 million. Is that a number that is in the right ballpark? And that would be my first question.
The second question is on the CapEx you have from Russia, with all these projects completing at the end of the year can we assume that the run rate of the CapEx we've seen in Q2 should be extrapolated for the rest of the year or have we already seen the peak there.
And perhaps also with all the nuclear upgrades you are seeing in Oskarshamn and Forsmark, can you just remind us what the total capacity addition will be once these upgrades are complete.
Okay if I answer the nuclear issues, I can't really comment your figure EUR 25 million, but I think that you have done that based doing on some assumptions and clearly analyze the situation.
Lueder Schumacher - UniCredit
Mostly it's on the same.
Yes but as you know that when we have in public, the figure elsewhere in the report we can't really comment that. The total increase in nuclear power production in Sweden as we have calculated will be close to 300 megawatt and now I can't recall exactly how much out of that 300 megawatt has already materialized.
Lueder Schumacher - UniCredit
But we can send the more exact information, that we have a [bucklist] before but now I don’t have the material with me.
Lueder Schumacher - UniCredit
We can post it on the (NYSE:IRF)?
Yes. The program and the sign table and what has already materialized.
Lueder Schumacher - UniCredit
Okay. And the Russian CapEx?
Yes, I can comment on that but if you remember, we gave a sort of a guidance that this year total CapEx would be around 1.5 billion and after two quarters, the total corporate rate is about 500. So clearly the burn rate has to increase during the last two quarters in order to reach that one. Whether our current is conservative, that’s another matter but Russia is 258 after the 250 basically after two quarters, so it should probably burn more cash or invest more because we are in a crucial phase on these three projects and completing them this year, so its very high activity. So there will be more cash, corporate level and most likely in Russia because the increase from the range comes from Russia during the last two quarters and that of course is also because of all the activities are in bit of course on the older Russian operation disinvestment activity. But the investments should be higher in the last two quarters than they have been in the first two quarters.
(Operator Instructions). Our next question comes from Per Lekander. Please go ahead.
Per Lekander - UBS
My name is Per Lekander, good afternoon from UBS. I’m continuing with this tax issues, if you separate into Finland and Sweden. In Finland, what is the problem? Is the problem that the Finance Minister wants to extend TVOs so they are self consumed or what is really the problem? And also have you seen any repercussions so this discussion in Germany. Is it like you know that the speed has increased anything on these discussions as a consequence of this?
And then second on Sweden, there are elections upcoming and I’m sure you’ve done a lot of analysis on what could come up after that, are there some issues in the different blocks programs etcetera which you put particular concern on etcetera which we should watch out for and so we don’t get taken on the bed and one or the other blocks win.
If I take the windfall tax (inaudible) no we haven’t seen any acceleration or heating of the discussion because of the German discussion or German initiatives and yet the problem in the proposal, if you remember that the government gave out its principal decision that the windfall tax should be avoided in a way that it doesn’t hurt the forest interest deals, the manufacturing industry in general, which means that basically that TVO type of companies and very similar companies should be extended and that of course is a very difficult proposition because Fortum should be taxed under another company which when shared, should not be taxed on the same asset then it proposes to let go at the questions and also of course on the European union level, so this is exactly the problem and let’s see how it sells if it's sold at all. Basically issue where it's stuck according to...
Yes, the political question, we can’t really comment too much about political selections and what governments are planning to do but of course nuclear power is important for us in Sweden so that we hope that the coming Swedish government will have favor and all attitude towards nuclear power. That is probably the main thing of course.
As there are no further questions remaining in the queue, that would conclude today’s question-and-answer session. At this time I would like to hand back the call towards your host. Please go ahead.
Okay, thank you very much for your attention and we wish you very nice and warm summer also onwards and now we will hear and meet you again during the Capital Markets Day. Hopefully many of you attend the conference call in later part of the October. Thank you very much.
That concludes today’s conference call. Thank you for attending today’s conference. Have a good day, you may now disconnect.
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