Adecoagro S.A. (NYSE:AGRO)
Q1 2016 Earnings Conference Call
May 13, 2016 10:00 AM ET
Hernan Walker - IR
Mariano Bosch - CEO
Charlie Boero Hughes - CFO
Marcelo Sanchez - Commercial Director
Rafael Macedo - BTG
Antonio Barreto - Itau
Ravi Jain - HSBC
Victor Sargiato - Credit Suisse
Fernando Suarez - Raymond James
Good morning, ladies and gentlemen and thank you for waiting. At this time we would like to welcome everyone to Adecoagro's First Quarter 2016 Results Conference Call.
Today, with us we have Mr. Mariano Bosch, CEO; Mr. Charlie Boero Hughes, CFO; and Mr. Hernan Walker, Investor Relations Manager.
We would like to inform you that this event is being recorded and all participants will be in a listen-only mode during the Company's presentation. After the Company's remarks are completed, there will be a question-and-answer section. At that time, further instructions will be given. [Operator Instructions].
Before proceeding, let me mention that forward-looking statements are based on the beliefs and assumptions of Adecoagro's management and on information currently available to the Company. They involve risks, uncertainties and assumptions, because they relate to future events and therefore depend on circumstances that may or may not occur in the future.
Investors should understand that general economic conditions, industry conditions and other operating factors could also affect the future results of Adecoagro and could cause results to differ materially from those expressed in such forward-looking statements.
Now, I'll turn the conference over to Mr. Mariano Bosch, CEO. Mr. Bosch, you may begin your conference.
Good morning everyone and thank you for joining Adecoagros 2016 first quarter results conference. As you may have seen in our report we have a very good quarter in all our businesses. In the Farming and Land Transformation business, we have important things happening such as the change in Argentina’s agriculture public policies in particular the elimination of export taxes for the corn, wheat and rice and the reduction in soybeans. The de-valuation of the Argentine currency, which made us more competitive and improved our cost structure.
In the operational side as you have heard in several locations before we are very disciplined to continue improving our efficiencies year-after-year, and as an example our milking cows are delivering 36 liters a day and we have been able to harvest 100% of our rice production with better use compared to last year just before heavy rains started in the Northern areas of Argentina. And we are taking advantage of the coordinated work between harvest logistics and commercial teams to maximize the sale of our production of corn and soybean after the heavy rains. All this will continue to enhance our financial results for this business. On the sugar ethanol and energy business as anticipated we have implemented the non-stop or continuous harvest. This new development will substantially increase our production and dilute our fixed cost making a significant contribution with our obsession of becoming the low cost producers for sugar ethanol and energy.
As of the end of the first quarter we had already milled 1.5 million tons of sugarcane that’s three times more when compared to last year. In addition we have finalized the investment cycle and become cash flow positive by the end of 2015 and on top of that sugar prices are recovering. All of the above makes us very optimistic on our near future. And at the same time we continue looking for growing opportunities in all our business lines that brings additional value to the company and attractive returns to our shack holders.
Now I'll let Charlie walk you through the number of the quarter.
Charlie Boero Hughes
Thank you Mariano and good morning everyone. I’d like to start on Page 3 by briefly explaining the amendments to the biological asset accounting and walk you through the main implications regarding our financial statements.
In June 2014 International Accounting Standards Board amended IAS 41 which relates to the accounting treatment of biological assets. A new standard determines that bearer plants should be accounted for in the same was as property plant and equipment. They will therefore now be accounted for under IAS 16. The produce growing on bearer plants will continued to measured at fair value less cost to sale. Adecoagro's sugarcane plantations qualify us both bearer plants and agriculture produce in the following way. The sugarcane roots which will grow produce our multiple harvests will be classified as property plant and equipment and measured at amortized cost and depreciated over six years. The sugarcane currently growing on the field which will be cut during the next harvest, we will treated as agricultural produce and measured at fair value less selling costs.
These new standard will have two main impacts on our income statement, first the depreciation of sugarcane, calculated as 1/6 of the capitalized cost of planting will form part of the our cost to production reflected in the line item cost of manufactured products and impact our net income. Second, instead of measuring the fair value of sugarcane by calculating the net percent value of all future harvest as we’re doing until now, going forward, we will only calculate the net present value of the next harvest, in other words, the unharvested sugarcane growing on the fields. Any difference between the fair value at the end of the period and the fair value at the beginning of the period, net off sugarcane maintenance cost related to each period will impact our income statement in the line item changes in fair value of biological assets.
In light of these changes, we’ve decided to simplify our definition of adjusted EBITDA under the previous accounting standard our adjusted EBITDA calculation eliminated any gains or losses from changes in fair value of long term biological assets. Under the new accounting standard, we’ll no longer eliminate the gains or losses from changes in fair value of sugarcane biological assets, since this only represents the net percent value of sugarcane currently growing on the fields. We believe this new definition of adjusted EBITDA not only simplifies the calculation of adjusted EBITDA but also treats sugarcane with the same criteria as we treat soybean or corn. We believe this metric adds transparency and reduces volatility for investors, since we’re able to anticipate any positive or negative impacts on our productions and margins. On the chart on the bottom of the page, you may find the impact of these changes. Adjusted EBITDA for 2015 under the new standard has increased by $5.7 million, which is explained by the net present value of the unharvested sugarcane standing on the fields as of December 31, of 2015.
In the case of net income, since is the new accounting standard does not consider the fair value of the sugarcane root or in other words, the net present value of what we’ll be harvesting between the next two and six years. Our net income has decreased by 23 million. Please now turn to Page 5, were I would like to explain the nonstop or continues harvest model, which we’ve implemented in our cluster Mato Grosso do Sul since the beginning of the corn harvest season. There weather pattern in Mato Grosso do Sul were our cluster is located, is less seasonal than in Sao Paulo. Our summer is dryer and our winter is more humid then traditional sugarcane regions in the center/south Brazil. As a consequence of these weather pattern, as you may see in the chart the sugar content gap between the beginning and the end of the year compare to the peak of the harvest is much smaller than Sao Paulo, the TRS curve is much more flat. This allows us to grow and harvest sugarcane year around with a minimum impact on sugar content.
Since the beginning of the 2016 and ’17 harvest year, we implemented a non-stop or continues harvest. This means that we’ll harvest and crush sugarcane year round without stopping due to traditional off season. This new strategy will allow us to increase annual sugarcane milling and sugar ethanol and energy production by approximately 10%. Another benefit of the system is that we’ll be producing ethanol in the off season, when market prices usually have a high premium to prices at harvest. In addition co-generation efficiency is related to harvest volumes and unrelated to TRS, enabling us to utilize our co-generation potential during the whole year. Considering that approximately 85% of total costs are fixed, this model will result not only in higher revenues but also in the dilution of our fixed costs. A continues harvest is part of our strategy of increasing now our overall productivity and enhancing our return on invested capital, we believe this model, will allow us to remain one of the lowest cost producers of sugar, ethanol and energy in Brazil.
The implementation and execution of this model was only possible after reaching high operating efficiencies standards and strong coordination between our agricultural and industrial themes. Let’s move to the next slide to see the impact of the new model on our operation, as a result of the continues harvest model, our mills operated during whole quarter. As you may see in the chart, we crushed 533,000 tons in January, 333,000 in February and 637,000 tons in March on an aggregate basis we crossed a total of 1.5 million tons of sugarcane in the first of 2016, 227% higher than last year.
On Page 7 I would like to walk you through our agricultural productivity metrics. Our operational teams continue fully focused on our agricultural operations. As we have explained before, sugarcane production represents over 70% of total cost of goods sold. Therefore, being an efficient producer of sugarcane is the key driver behind our low cost strategy. We continue working on training and strengthening our operational teams, improving our logistics and enhancing our efficiency. As you may see on the chart sugarcane yields per hectare have increased by 13% while as expected sugar content or TRS per ton of cane fell by 8%. Overall, TRS measured per hectare reached approximately 11,000 kilograms 4% above the previous year.
Let's move to Slide 8 to see the growth in production. Sugar and ethanol output boosted during the quarter, driven by the increase in sugarcane milling and the 4% growth in TRS per hectare. As you may see in the bottom left chart, measured in tons of TRS, production grew from 51,500 tons to 166,400. This implies an increase of 223%. In the case of energy, production increased by 280%. Nonetheless a large portion of the gas we produced during the quarter was not burned and it has being carried forward to the second quarter in order to capture higher electricity prices. This explains why the cogeneration which measures energy sold per ton of sugarcane crushed was only 45 kilowatt hour per ton. Despite this ratio was 16% higher year-over-year, it is significantly lower than our forecast for the full year.
Let's now turn to Page 9 where I would like to comment on sugar and ethanol sales. As you may see on the top left chart sugar net sales grew by 102% despite a 30% decline in sugar prices. The increase was driven by significantly higher sales volumes as a result of the growth in production and the strong Sugar carry executed at the end of 2015. Regarding ethanol net sales increased by 11%, sales growth was driven by a 10% increase in realized ethanol prices in dollar terms and a 6% increase in volumes. Volume growth year-over-year does not reflect the higher production volume this quarter because sales in the first quarter of 2015 reflect a large Ethanol carry executed in December of 2014.
Now let’s please turn to Slide 10, where I would like to discuss energy sales. As you may see in the two charts on the top of the Slide, energy prices during the first quarter are significantly lower than last year and have traded at an average R$35 per megawatt hour. This is explained by high rains which have increased hydropower supply coupled with a reduction in demand as a result of the economic recession. Measured in dollar terms energy prices year-over-year decreased by 64%. Nonetheless our net sales increased by 40% driven by the growth in production.
It's important to highlight that over 75% of our annual energy exports are already being contracted in options at prices around R$200 per megawatt hour. These contracts are scheduled to be delivered between April and December. Therefore, the energy sold during the first quarter was mostly sold in the spot market. As a result and as I explained earlier, we kept cogeneration volumes during the first quarter at minimum levels. Therefore, we have a large stockpile of the gas which we will be burning during the upcoming months to capture higher prices.
Finally, to conclude with the sugar ethanol and energy business, I would like to focus on Slide 11. Here we can see the overall financial performance of the sugar and ethanol and energy business. So the net sales during the quarter reached $69.3 million, 37% or 18.6 million higher than the same period of 2015. As explained during the previous slides, the growth is mainly explained by the increase in sugarcane crushing which helped us increase sales and capture higher off-season prices and dilute our fixed cost, enhancing our margins.
Adjusted EBITDA increased significantly during the quarter from 2.4 million in the first quarter of 2015 to 22.1 million in the first quarter of 2016. Adjusted EBITDA increased significantly during the quarter from $2.4 million in the first quarter of 2015 to $22.1 million in the first quarter of 2016. Adjusted EBITDA margins expanded from 5% to 32%. Adjusted EBITDA growth is explained by the increase in sugarcane crushing production and sales volumes driven by the continuous harvest model. A 16% reduction in unitary production costs are as a result of fixed cost dilution coupled with a devaluation of the Brazilian real and higher agricultural productivity. These effects were partially offset by 11.5 million decrease in hedging results which means that in the first quarter of 2015 the mark-to-market of our sugar hedges generated a gain of $12.2 million while our hedges in this quarter only generated a 0.5 million gain.
On Page 13, I would like to walk you through the status of our crops. During the first quarter we started harvesting the bulk of our crops, the harvest of wheat was fully completed at the commencement of the year. The productivity achieved was very good due to favorable weather conditions and good operational execution. Yields were 11% higher than the previous year. In the first quarter we also started and completed the harvest of our rice crop. Good operational execution and logistics planning allowed us to successfully harvest 37,000 acres of rice on time. A few days after the harvest was completed some of our rice farms suffered heavy rains which would have generated significant losses if the rice was still on the ground.
Rice yields reached 5.9 times per hectare, 16% higher than last year. We are starting to see the benefits of our land transformation and zero leveling investments and our focus on operational excellence. We're still below our target yields on a farm-by-farm basis but believe we are on the right track. The rice harvested is in our milling facilities and will be processed into white rice and sold during the rest of the year. In the case of soybean and corn plant growth and development was well about average as a result of excellent weather during the plant flowering phase. We began the harvest of soybean during the early April.
In the [indiscernible] the harvest is advancing well and achieving above average yields. However in the north part of Argentina abundant rainfalls and high temperatures during the second half of April generated significant delays in harvest and logistic complications. Grain quality is also suffering damage from high humidity and high temperatures. Harvest activities we commenced in the last week of April, it is still early to assess the magnitude of the losses in the North as well as how much will be compensated by the large crop being harvested in the South.
Let's move to Page 14, where I would like to walk you through the financial performance of each of the segments within our farming business. In the case of the crops segment adjusted EBIT increase was 16.7 million 13% higher than the same period of last year. The increase is primarily explained higher margins as a result of higher corn and wheat prices in the local market as a result of the elimination of export taxes and quotas coupled with lower production costs as a result of lower input costs and the depreciation of the Argentine peso in real terms. Financial performance was offset by lower soybean and sunflower prices coupled with 9.9 million reduction in hedging results. This quarter the mark-to-market of our hedging positions resulted in a 0.5 million loss as a result of the rebound in commodity prices. While in the first quarter of 2015 our hedging position generated a $9.4 million gain.
Regarding the rice business the 56% increase in adjusted EBIT is also explained by a 16.3% increase in yields coupled with a lower production costs driven by the depreciation of the Argentine peso. In the case of the dairy business operational performance during in the quarter was very good. Meat production volumes reached 21.5 million liters, 6% higher year-over-year driven by a 3% increase in productivity per cow per day and a 3% increase in our dairy cow herd. Operational performance was upset by lower selling prices resulting in a decrease in adjusted EBIT. On a consolidated basis adjusted EBIT for the farming business reached 25 million in the first quarter of 2016, 17% higher year-over-year.
On Page 15, I'd like to briefly comment on commodity prices and our hedge position. As you may see on the chart on the right since early April grain prices have rallied over potential downside risk to South American's production focus. The rally was further enhanced by macro drivers including the weakening of the U.S. dollar, increasing crude oil prices and growth of the Chinese economy. Soybean and corn prices have increased 22% and 16% since early April respectively. In the case of sugar price began the year at around 0.15 per pound decreased to 12.5 per pound by mid-February and then rebounded to about 16.5 per pound by the end of March, the highest price level since October 2014.
Despite an early start of the crop and ideal weather for cane crushing in Brazil, crops in other producing areas like India and Thailand were damage by last year’s severe drought. Consequently, the supply and demand deficit is expected to be larger the then forecasted. As a result funds have begun to build up a large long position once again, pushing prices to highest level in over 18 months. As you may see on the table on the left, these recent upward moves in prices, have allowed us to improve our hedge positions for the current year and started to hedge next years production at attractive price levels. I like to highlight that we hedge our crops to mitigate short term price volatility. Our hedging strategies allow us to lock in margins at the levels we consider attractive and have a most stable and foreseeable cash flow. However in the long term, we’re long commodities since we own the productive assets.
Let’s now turn to Page 17, which shows that evolution of Adecoagro's consolidated operational and financial performance and our consolidated basis, net sales increased year over year from 109 million in the first quarter of 2015 to 117 million in the first quarter of 2016, the 7% increase is explained primarily by higher sales volumes for most of our products and higher prices for corn, wheat and ethanol. Adjusted EBITDA in the first quarter of 2016 totaled 43.2 million, representing a 113% increase compared to the first quarter of 2015. Improvement in financial performance was primarily driven by the implementation of the continues harvest strategy in the sugar, ethanol and energy business, which resulted in higher crushing of production volumes and costs dilutions coupled with enhance margins in the farming business driven by the elimination of export taxes and quotas and the depreciation of the Argentine peso in real terms.
We expect Adecoagro's production volumes and financial performance to continue growing in line with historical growth, mainly driven by the consolidation of our sugarcane cluster and an increase in the operational financial efficiencies in each of our businesses.
To conclude please turn to Page 18. As you may see in the top left chart, our gross indebtedness as of March 31 of 2016, stands at 795 million and net debt stands at 571 million. Net debt was just slightly lower compared to March 2015, it’s important to notice that due to the seasonality of our business, in the first quarter we continue investing in working capital. The bulk of our sales and cash inflows will occur during the second, third and fourth quarter. As our cash generation ramps up during the coming quarters, we expect to see a larger reduction in net debt.
In terms of the profile of our debt outstanding, I would like to highlight that two-thirds of our debt is in the long term, composed mainly of loans from multilateral banks such as the BNDS and the Inter-American Development Bank. The average cost of our debt is very competitive at 4.4% in dollars and 6.6% in Brazilian real.
Thank you very much for your time. We are now open to questions.
Thank you. The floor is open for questions and answer session [Operator Instructions]. And our first question will come from Rafael Macedo of BTG.
I have just one quick question. Given that you are seeing better margins in the sugar and ethanol division and better price prospects for grain, you should have strong free cash flow generation, as you mentioned, for this year. So with this deleveraging process in place, my question is when do you expect to enter into new growth cycle and what kind of projects you would be willing to look at?
We’ve been always very disciplined on how we allocate capital and we’re always focusing on the returns of our invested capital. So taking that into account, the first thing that will continue to happen is this, the leveraging that you’ve been just a mentioning. And then regarding the growth project we continued to see a interest, we continue to have a very interesting pipeline mainly in the current business that we’re having and when we think on the marginal returns that is a project within the current business that we have is potentially were we see more attractive returns, especially taking into account that we already have matured teams in this sugar and ethanol Mato Grosso do Sul cluster in our rice operations in our soy, corn and wheat operation and even in the dairy.
So we foresee growth mainly in our existing business lines. But we will continue to make a focus on the return on invested capital so, you will only see that the growth when we consider this is really accretive to our current shareholders.
Thank you, the next question will come from Antonio Barreto of Itau. Please go ahead.
I have two questions about the sugar and ethanol business. And the first one is, we are seeing a little bit of a softer ethanol price at the beginning of this harvest. And I would like to understand how is your carry strategy going to play out for the ethanol products. So are you going to carry a lot of ethanol like you did in the last year? And how do you see the ethanol prices evolving in Brazil throughout this season?
Hi Antonio. I will ask Marcelo Sanchez, our Commercial Director to answer your question, Marcelo?
Good morning Antonio, what we’re seeing is that prices have been decreasing within the last three weeks and our carry strategy has already started and we think in terms of the volume that, we’re going to be carrying as much as possible into our tanks for the season, and regarding the price scenario that we’re forcing for the next coming months, we’re constructive for ethanol prices 2016 but several reasons to assure that as our consumption is being positively reacting lower prices at gas stations. Piloting in Sao Paulo is reaching 66%. Also higher sugar prices are incentivizing mills to increase the mix of sugar production and then that is positive on the ethanol side and I think that prices -- that level of prices that we’re seen last year around BRL1.3 per cubic meter are not expected to be seen this year then that’s basically our view on the ethanol side.
Thank you, that was very clear. My second question is, how do you see the impact of the weather this year in your sugar cane crops? We have been hearing reports of some frosting in Brazil and we know that with the slowdown of El Nino that you are going to have drier weather. So, can you give us an overview of how do you see the impact of the weather there in Mato Grosso? And how do you see the impact of this weather in your TRS and tons per hectare productivity yields for 2016?
Today the impact on the weather on our existing sugarcane plantation, I would say is excellent. Our sugarcane plantation as you’ve see in our latest yields, is yielding excellent tons per hectare and if you have our potential La Nina, so if this El Nino is softening and we have a drier climate that would be excellent for our sugar and ethanol business because that will mean, that we would be able to have a good period, a good drier period to harvest and collect all our sugarcane. So drier season from now onwards will be very well come on our existing sugarcane in Mato Grosso do Sul. That’s basically what we see in the sugar and ethanol business, if La Nina is coming. And off-course a frost is never welcome, but we haven't heard or we don’t force anything like that.
Anything that you could share with us in terms of estimates for TRS when you compare it to the last year? If this dry weather actually materializes that improves your TRS content, what kind of upside are we talking about here? Any kind of estimate?
A drier weather is always welcome for the TRS so we have it that’s why whether we can improve the TRS in 2 or 3 points, but we always look at the TRS per hector that’s the multiples important measure that we are otherwise looking at.
Okay. And any idea of what kind of TRS per hectare you are looking at?
No, what we’ve been obtaining until now that is this 12 tons of TRS per hectare is something that we can continue to foresee.
The next question will come from Ravi Jain of HSBC. Please go ahead.
So I had a question on the Argentina land business. Since the end of last year, have you seen any material increases in land transactions or valuation? And a related question on that is, do you expect the new administration in Argentina to remove the restriction on foreign ownership of land in the foreseeable future?
Regarding land prices we strongly believe that land prices are always associated to the cash flow generation of that land. And in Argentina you’ve seen the cash flow generated by each piece of land because of all this new government policies have improved and thus we believe that prices of land should continue to increase in Argentina. We’ve seen that, we’ve sold some farms according to this in latest of the year at 50% above our independent valuation. So, we continue to see that the trend going on, that is and the first part of your question. And then regarding the land ownership law, we are hearing from government officials that they are working on that and they will work to have different thing to what we have and we’ve also heard from the opposition coming from governors like the governor of the Salta province also mentioning this and talking specifically that he will also be working to get rid of this existing land ownership law.
That's very helpful, Mariano. And one last question from my end, can you give us your thoughts on a potential dividend or the share buyback policy, given that the shares have come down to $11, and plus your thoughts on a potential when you want to start your dividend policy for Adecoagro? Thank you.
And this is in line with Rafael’s question at the beginning. We always are focused on this return on invested capital and so the three things are always in our head, the de-leveraging, the growth projects and the share buyback or dividend that is the three things are part of our discussion, our permanent discussion on what to do with the excess cash. We’ll do whatever is best or we consider is best for being accretive to our existing shareholders.
The next question will come from Victor Sargiato of Credit Suisse. Please go ahead.
I just want to understand how you see the agricultural yields going forward. I know that you are going to harvest the Southern farms, which has higher yields. But just wanted to understand if it will be sufficient to offset this decrease in soybean, corn and sunflower yields that you realize. The second question is, there was a rumor in the market that you are considering to sell the sugar and ethanol business. Just want to understand if you have any kind of discussion in this way. Thank you.
I will address the last part of your question. I think that don’t make sense at all. We’ve heard this several times from Relatorio Reservado that it's a place that I don’t know where do they take those type of news and why they release that type of news that doesn’t make sense at all, and doesn’t make sense to all what we’ve been talking about on the enthusiasm that we have and how excited we are on our sugar and ethanol cluster [ph] Mato Grosso, so there is no way we’ve been thinking or talking about it. So that’s -- I wanted to be extremely clear because of the bad information they have from Relatorio Reservado that they’re talking about.
Then going to the farming yields, regarding rice that is where we finished, we are 16% about last year and regarding soy, corn and -- that are still in the middle of the harvest where we see a better yields or excellent yields in all our Southern farms and we are -- we had excellent yields and excellent soybean in all our Northern farms but because of the flooding there are losses happening on those Northern farms. The final figures of course we don't know and there is some viability. We are going to be above our budgeted yields that comparing to last year, last year we had excellent yields in soy and corn specifically, so compared to last year we still don’t know, we're certainly aware we're going to be finishing but we are pretty sure we would end up with a very good yield compared to historical pattern. And for sure we will be above our historical pattern.
And our next question will come from Fernando Suarez of Raymond James. Please go ahead.
Good news from these results. But I was wondering what would be the impact on a quarterly basis on the second, third and fourth quarter of last year, and if you can give some guidance on what will be the impact on previous years in nominal terms.
Sorry Fernando I didn't understand the first part, what is your question?
I meant, related to the 41 amendment.
Yes, the biological asset assumption. I'm going to ask Charlie to take that question. Charlie?
Charlie Boero Hughes
Obviously, it would depend on the variables that we may -- we're assuming to calculate the DCF from the different biological assets and that's relating more to projected yields and then prices, so that will determine basically which would be the results, but as we explained we should see an increase in EBITDA conceptually speaking, as we are considering the impact of the fair value of the next 12 months of the sugarcane. And a slightly reduction on that income.
And regarding historical figures?
Charlie Boero Hughes
We shouldn't be expecting a big difference to many changes.
[Operator Instructions] At this time we have no additional questions. I would like to turn the conference back over to Mr. Bosch for his closing remarks.
As you have seen during the call, we had a very promising first quarter. We believe we are in the right direction to finish the year delivering very good yields. We have developed one of the most efficient sugar-ethanol energy cluster which is already delivering results. And our Farming and Land Transformation business have performed and we are taking advantage of the new policies in Argentina. Our teams have done a great job in reaching levels of efficiencies and continue to explore more opportunities of improvements to enhance the returns of each business. So, look forward to seeing you in the upcoming Investor Relation event. Thank you for joining the call today.
Thank you. Ladies and gentlemen the conference has concluded. Thank you for attending today's presentation. You may now disconnect your lines.
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