Adecoagro SA (NYSE:AGRO)
Q3 2016 Earnings conference Call
November 16, 2016 9:00 AM ET
Mariano Bosch – Chief Executive Officer
Charlie Boero Hughes – Chief Financial Officer
Marcelo Sanchez – Chief Commercial Officer
Alexandre Falcao – HSBC
Thiago Duarte – BTG
Antonio Barreto – Itau
Matthew Guinness – Somerset Capital
Good morning, ladies and gentlemen. And thank you for waiting. At this time we would like to welcome everyone to Adecoagro’s Third 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 listen-only mode during the company’s presentation. After the company’s remarks are completed, there will be a question-and-answer session. 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’s 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 Adecoagro’s 2016 third quarter results conference. Once again, I’m very proud to present a strong financial and operational figures. We are convinced that this is not the result of a mere stroke of luck nor the result of an isolated event. On the contrary, this is a direct consequence of having systematically executed a concise plan that is based on one main pillar to become the local producer in all the commodities that we produce.
For that to happen, we follow certain guidelines such as focus our efforts on a hectare per hectare basis in order to achieve the maximum efficiency and attain high yields in a sustainable manner. Work on a daily basis in enhancing industrial and logistic efficiencies to contribute to the overall profitability. In our sugar, ethanol and energy business, we are convinced that in order to become a low cost producer and generate attractable stable returns, we have to maximize sugarcane pricing. In this line, we implemented the continuous harvest model since the beginning of this year.
We are very optimistic with this new production scheme and we are confident that it will allow us to become the most efficient player in the industry. For this model to work however, we must constantly have the sugarcane industries to supply our mills. This explains the aggressive blending strategy that we implemented over the last four years. As of today with the amount of sugarcane that we currently have, we can mill at full capacity on a daily basis as long as the weather allows us. And this is why we are very comfortable to continue harvesting during what is traditionally referred to as the inter-harvest season.
Moving to our Farming and Land Transformation business, we’re presenting a solid performance in our rice and dairy operations. With the former one, we were able to reduce operating costs as a result of higher agricultural and operational efficiencies resulting in higher margins. Regarding the dairy business, cow productivity continuously increased reaching 38 liters per cow per day. This explains the increase in EBIT generation.
From an operational perspective, all of our teams are fully focused on finishing the planting of the 2016-2017 harvest year. Crops are developing in excellent conditions and we are starting the period in which most of the yields are defined. At the same time, we continue looking for aggressive growth opportunities in each of our business lines to continue generating value and attractive returns for all of our shareholders.
It’s been a long way since we started with these exciting projects. We’ve been through all the ups and downs of a commodity cycle and we went through times in which the economic policies were not the most convenient for the development of our industry. In spite of everything we knew that no matter what we always have to stick to the mentioned guidelines. I’m very proud to say that all the discipline and hard work is paying off. And we are now reaping the benefits.
As a matter of fact, this will be the first year that we will generate positive free cash flow since we went public. We believe this is a major turning point in the history of the company. I would like to finish by reiterating my gratitude to all the operational and management team. Thanks to their daily effort and hard work. We are confident that each day we are closer to reach our ultimate goal, which is becoming the low-cost producer of food, renewable energy in the entire world while at the same time generate attractive and sustainable margins for our shareholders.
Now I will let Charlie walk you through the numbers of the quarter.
Charlie Boero Hughes
Thank you, Mariano. Good morning, everyone. Let’s start on Page 4, as shown on the chart to the left, effective milling days increased by 16%. At the same time, our milling volume per day increased by 4% as a result of the ramp up of the Ivinhema mill and higher operational efficiencies across harvesting, logistics and milling operations. As a result of these two factors, we were able to crush a total of 3.8 million tons in the third quarter of 2016, 20% above last year.
On a year-to-date basis, due to the early commencement of the harvest as part of the continuous harvest model that we implemented since the beginning of the year, sugarcane crushing has increased by 22% year-over-year. As of today, we have already crushed more than 9.5 million tons of sugarcane. This represents 90% of our forecast volume. We are well on track to reach our target during November and December.
Please jump to Page 5, where I would like to highlight few agricultural performance metrics. Our operational teams continue to dedicate it to improving agricultural productivity. It is a key driver for becoming a low-cost producer since sugarcane production represents over 70% of total production costs. Yields per hectare during the quarter have reached 106 tons, 23% higher than last year, while TRS per ton of sugarcane has decreased by 3%. As a result of both factors, TRS per hectare remains 18% higher than last year.
Let’s move to Slide 6, production during the second quarter has been positively affected by the increase in sugarcane crushing. As you may see on the far right, total production measured in TRS equivalent increased by 18%. In terms of production mix, the fact that sugar prices traded during the quarter at an average premium of 25% over ethanol resulted in a highly concentrated sugar production, 55% of total TRS production was diverted towards sugar. Consequently sugar production increased by 45% year-over-year while ethanol production decreased by 3%.
Let’s move ahead to Slide 7, as you may see in the table, production costs per ton of sugarcane crushed measured in reals decreased by 3% in the third quarter. It has been the result of an ongoing process of efficiency enhancements and fine-tuning across the entire production process, seeking to become the low cost producer of sugar and ethanol in Brazil. On a year-to-date basis unit production costs have also decreased by 6%.
Now let’s please turn to Slide 8, where I would like to discuss sales. Sugar prices continue climbing higher during the quarter trading 80% higher than a year ago and 20% higher than last quarter, driven by a global sugar deficit. As explained earlier, we maximized the sugar production during the quarter to capture these attractive prices. Sugarcane volumes reached 220,000 tons, 38% higher year-over-year. Average realized prices increased by 36%, resulting in the net sales growth of 88% year-over-year.
In the case of ethanol, despite trading at a discount for sugar, hydrous and anhydrous prices are 29% and 26% higher than last year respectively, supported by lack of supply as a results of our smaller than expected sugarcane crush in the Centre South Brazil and high sugar mix. Our ethanol sales volume was essentially flat year-over-year, as a result of lower production coupled with our current strategy to capture offseason premium prices. However, sales were positively affected by higher ethanol and the de-appreciation of the real during the quarter resulting in a 45% increase in realized prices and net sales.
Finally, to conclude with the sugar, ethanol and energy business, I would like to focus on Slide 9, where we can see the overall financial performance of the sugar, ethanol and energy business. As we just explained as a result of the increase in sugar and ethanol prices and the 38% increase in sugar selling volumes, net sales mark had 63% increase quarter-over-quarter. Adjusted EBITDA in third quarter 2016 reached $80 million, 23% higher than the third quarter of 2015. The main factors contributing to the enhanced financial performance during the quarter were; a 20% increase in sugarcane milling coupled with higher sugar and ethanol prices, and higher agricultural productivity and efficiency gains in our industrial and cane logistics operations. These effects were partially offset by our $10.3 million un-realized loss from the mark-to-market of our sugar hedge position and higher unitary production cost measured in dollars as a result of the real appreciation.
On a cumulative basis, adjusted EBITDA for the first nine months of 2016 grew by 31% reaching $163 million. Adjusted EBITDA margin reached 49%, these results are primarily explained by our 22% increase in crushing volumes coupled with 23% increase in TRS sold as a result of the early start of the harvest due to the implementation of the continuous harvest volume. Higher sugar and ethanol realized prices and lower production costs, as a result of operational enhancements and evaluation of the Brazilian real. Results were partially offset by $24.2 million loss generated by the mark-to-market of our sugar hedge position.
I would now like to move on to the farming business, please turn your attention to Slide 11. The 2015-2016 crop season was officially completed during the quarter. A total of 211,000 hectares were harvested, producing 804,000 tons of diversified crops. As you may see in the chart, production has gradually increased since the 2002 monthly season driven by our land transformation and sustainable production model.
We have also begun planting activities for the 2016 and 2017 crop season. As you may see in the bottom chart, we expect to plant a total of 232,000 hectares, 10% higher than the previous crop. In the next page, as you may see in the chart as a result of the elimination of both the export taxes and quotas, we have decided to increase our corn and wheat crop planted area by 28% and 18% respectively. To the contrary, sunflower area has been reduced by 43%. As of September 30, a total of [indiscernible] hectares or 34% of total area have been successfully planted. Weather conditions have been good and the crops are developing as expected.
Let’s move to Page 13, where I would like to walk you through the financial performance of our farming business. As you may see on the chart, on a quarterly basis adjusted EBIT for the farming business was $14.7 million, 94% higher year-over-year. This increase is mainly explained by the rice, dairy and other businesses, partially offset by the crops business. Regarding the rice business, adjusted EBIT reached $2.1 million compared to $0.6 million loss in third quarter of 2015. This growth is mainly explained by higher sales volumes and improved operational performance in our rice processing operations and the year-over-year devaluation of Argentinian peso, which has reduced our production costs.
In the case of the dairy business, operational performance during the quarter was outstanding and we continue to see improvements in productivity as we consolidated free stall facility. Milk production volumes reached 28.4 million liters, marking a 19% increase year-over-year driven by a 5% increase in our dairy cow herd and a 1% increase in cow productivity. This resulted in a $2.1 million EBIT generation, 70.5% higher than previous year.
Adjusted EBIT for all other segments during the third quarter of 2016 was $8.3 million of which $8.1 million corresponds to the settlement of an arbitration dispute with a third party regarding the early termination of lease agreements related to our cattle lend. Under the terms of the agreement, Adecoagro will collect $9 million in two instalments. As for the crops business, the 68% decrease in adjusted EBIT is mainly explained by the lower commodity prices, which resulted in an $11.9 million loss on the mark-to-market effect of our grain inventories.
Let’s now turn to Page 15, which shows the evaluation of Adecoagro’s consolidated operational and financial performance. On a consolidated basis, net sales in the third quarter of 2016 increased by 19% year-over-year, mainly explained by higher production volumes coupled with higher average realized prices in many of our products such as corn, wheat, sugar and ethanol. Adjusted EBITDA in the third quarter of 2016 totaled $89.8 million representing a 32% increase compared to the third quarter of 2015.
On a year-to-date basis, adjusted EBITDA stands at $184.2 million, 36% higher than last year. We expect that Adecoagro’s production volumes and financial performance continue growing in line with historical growth mainly driven by the consolidation of our sugarcane cluster and increase in operational and financial efficiencies in each of our businesses.
On Page 16, I would like to comment on commodity hedging. As you may see on the chart on the left, we have entered into hedge positions for our soybean corn and sugar production related to the current harvest and also next year’s production. As a result of the commodity rally experienced in the first nine months of the year, as you may see on the top chart, the mark-to-market of our hedging position as of September 30, 2016 resulted in $32 million loss. In addition, I would like to highlight that biological assets, ongoing inventory in our income statement are also measured as per value. Therefore, gains or losses from our hedge positions are partly offset by changes in fair value of biological assets on the mark-to-market of inventories.
Let’s now turn to Slide 17 to take a look at our net-debt position. As you may see on the top left chart, our gross indebtedness as of September 30, 2016 stands at $777 million. Our net debt stands at $640 million. Net debt to EBITDA ratio stands at 2.4 times compared to 3.4 times in the same period of last year. We expect leverage ratio to follow below 2 times by year-end driven by positive cash flow generation in the fourth quarter.
Although free cash flow during the first-nine months of the year was negative at $79 million, this is mainly related to a working capital EBITDA of $146 million. We expect strong cash generation in the fourth quarter as we sell our product inventory generating positive cash flow for the full year 2016. Finally continue revision market volatility and dollar appreciation following the U.S. elections, I would like to highlight and remind everyone that the bulk of our expenses are in local Argentina and Brazilian currency, while the bulk of our revenues are in U.S. dollars.
Our dollar debt is well balanced with our revenue mix and we have no shortfalls in our funding. Our export sales are well diversified across the world market and not directed to any particular country. Thank you very much for your time. We are now open to questions.
Thank you. The floor is now open for questions. [Operator Instructions] Your first question will be from Alexandre Falcao of HSBC. Please go ahead.
Good morning everyone. My first question is regarding the use of the proceeds or the cash generation that you guys are going to have, not only for this year, but for next year. What are you guys planned to do with all the excess cash this year you guys are going to generate going forward?
Good morning, Alexandre. I’m going to take that question. First of all, as we’ve been saying 2016 cash flow generation will be used to continue reducing debt. So that is 2016 that will be generated in this fourth quarter. Then for 2017, that of course we continue to expect to be cash flow positive, we will continue to be very disciplined on this analysis.
And this analysis will be between growth projects and buyback or dividend. We need to find growth project is profitable enough or above our targeted returns in order to execute them. After reducing our total debt to below two times EBITDA, is that we start analyzing this possibility of the growth projects or buyback and dividends.
And that depends on the return of investment and the logics of the different alternatives that we have. Today within the growth projects, we have marginal projects within the existing business lines that we currently have. We do have attractive things that we are analyzing within the sugar and ethanol. We also do have attractive things in rice and diary and we are also having some in crops.
And in that order, we are seeing the better returns within the sectors we are currently having. And of course, we always look at projects that are not within the existing ones in the overall industrial chain, and that is – will only happen at an more attractive return and always taking into account the natural competitive advantages that we can have in our industrial chain, where we can become the low cost producer on each one of these potential alternatives that we are also looking at.
So I think we have a good range of potential growth opportunities, but we’ll always depend on how attractive these are and specially comparing with our existing business that we are very optimistic and we think it is very profitable as of today.
Okay, thanks for that. If I may just ask a second question, your – the auditor report on the NAV of the land in Argentina came slightly soft at least according to our relative charge and expectations very mild increase in the NAV. Do you guys think there is any correlation whatsoever with the actual prices that you guys are seeing out there and why such a low price and what does it mean going forward for, in terms of selling lots of land in Argentina? Thank you.
Okay. Good question, Alexandre. Yes, in order to address your question. Number one, in Argentina in general, margins have improved. So we could all expect prices of land also improve. This improvement has not been a mature or reflecting yet on the transactions and as this evaluation is on our comparable transactions, there hasn’t been enough transactions to reflect these potential increase that we’ve been or that you were expecting.
On top of that, when we get into the details also the Brazilian land, we have two different types of lands in Brazil, the corn and soybean land in Brazil has decreased because the margins have decreased, so the price of land has a decrease in our Brazilian corn and soybean land. But this is offset by our Brazilian sugarcane land that because of margin that has improved, it has been improved in prices also. And then in Uruguay, we also see some decrease on the prices of land in general.
Okay, perfect. Thank you so much.
Thank you, Alexandre.
Thank you. The next question will come from Thiago Duarte of BTG. Please go ahead.
Thank you very much. Good morning everybody. Well, two questions on my side. First on CapEx, I actually missed the chart that you normally put in the end of the presentation regarding your CapEx expectations for the year. Remember, last quarter increased the expectation for this year around $110 million, if I’m not mistaken.
So just want to make sure that’s confirmed. And of course for next year, I mean you just – Mariano you just commented on your potential plans for the future. In the presentation, you guys mentioned a 10% increase in your planted area for the farming business. So, just wanted to understand what’s the CapEx expectation for next year, whether we should see that going to the $80-ish million range that we’re expecting before for this year, if that makes sense, whatsoever? That will be the first question.
And the second question will be interesting to hear you guys’ thoughts on sugar prices. I mean you had a very impressive rally over the next months. Recently prices have pulled back a little. There’s several discussions on the position from the hedge funds and how that speculative position could hurt prices, if they decide to sell. There are also discussions on the supply-demand of the industry, not for the next crop, for the next one. So it would be nice to hear your thoughts on how you guys believe sugar prices will behave? Thank you.
Okay, thank you Thiago for your question. I’m going to ask a Marcelo Sanchez to answer your second question, and then Charlie can update on the first part of your question. So regarding the sugar market, Marcelo can give you some – our thoughts.
Good morning, Thiago. We are constructive on sugar prices within the next 6 to 12 months, specifically given the final numbers on the resilient crop and the fact the sugar mills are ending their crushing period about a month earlier than last season due to the lack of cane this time.
Although some of the 2017 deficit has already been priced in as well as the exit of funds players, we have to get all sugar producing regions in the world coming up with good results [indiscernible] in 2018. Then given the other sales we have similar cane availability next year, even shifting all sugarcanes – TRS to sugar, it will be hard to equal this year sugar output of 25 million tons.
And having said that, we think that there is still room for an upside during the next coming two-three months, and we think that current future market price level for 2018 is in line with our expectation, May 2018, July 2018 prices are in line what we’re thinking on prices for next coming year.
Then the first part of your question, I would ask Charlie to answer on the CapEx for 2016 and 2017.
Charlie Boero Hughes
On regards 2016, we are still expecting to keep the figures that we have informed of $110 million in both in the maintenance and expansion CapEx. On regards 2017, we are working on our budget, but I can tell you that going forward once we stabilize our operations mainly in the sugar and ethanol depending obviously on the replacement of the ag equipment and sugarcane area that we have to renew and the real, we should be expecting our maintenance CapEx in a range of $90 million to $110 million and for 2017 in regards to expansion CapEx, we are analyzing as Mariano said at the beginning, some alternatives that they may have very good returns in order to be side moving forward and expense on CapEx in the businesses that we already have.
Just to confirm you said maintenance CapEx between $90 million and $110 million that’s correct?
Yes. Including all business lines that we have.
Perfect, thank you.
And the next question will come from Antonio Barreto of Itau. Please go ahead.
Hi, guys. Good afternoon to everyone. My first question is about the sugar and ethanol, I can see that your margins were about 52% EBITDA this quarter, but also not only you had this $10 million of marking-to-market, but also I saw that you guys sold about 25% of third party sugar. What I’m wondering is do you guys have an estimate of what is your margin for your own sugarcane operations, I mean excluding third party sugar.
And still about this issue, why do you guys think, why do guys sell 25% of third party sugar, when we look at competitors in Brazil most of them use – don’t do that. And I would like to understand what is your competitive edge in order to do this?
Good morning, Antonio. Just answering your question, this 25% of third parties cane that we are selling, this is to take advantage of some specific reason we have, we have this our commercial operation based in Uruguay, where we are taking advantage of this small trading activity, where we are having margins around 3%. So, if you make your account – your math, 3% is on the third-parties, so, the EBITDA margin on our own sugar, on our own sales instead of 52% is around 65%. So that’s a good question that you’re asking and it’s also good to clarify.
Yes. Okay if I can ask a second question. Can you guys – do you guys have already estimated what could be the effect of Petrobras price changes in your crops, I mean – in your profitability for the next year. If you have already factored in considering that diesel prices have decreased about 13% and gasoline about 6%, what is going to be the net effect to you?
Yes, Antonio. Thank you for the question. We assume that the price of diesel will decreased by 6.6%, this mean for our cost, a reduction of BRL13.3 million, this BRL13.3 million is of reduction in cost is coming half of it for our direct consumption of diesel and the other half coming from the reduction in freight of the end product, so the freight of sugar and ethanol.
So that’s the main impact of the reduction in diesel price. Then the reduction on the gasoline price, it can affect the price of ethanol, but as we are seeing a [indiscernible] of the production of sugarcane into more sugar instead of ethanol, there is lack of ethanol and we are seeing very strong prices for the ethanol and we are taking advantage of the long, the important [indiscernible] during the year and we are now selling at much better prices than four months ago.
All right. Thank you, very much.
[Operator Instructions] The next question will come from Matthew Guinness of Somerset Capital. Please go ahead.
Hello. I’ve two questions actually. The first is about free cash flow generation. You said it in your last quarter release that cash generation would come inside in fourth quarter but now you say it’s only coming in fourth quarter, I just wondering if anything has changed that or what we should expect in future. And also for next year, whether or not all of the cash generation will come in the fourth quarter again. My second question is, I just wondering about the structure of your debt and what the sensitivity to interest rates is on that. Thank you.
Thank you, Matthew. I’m going to ask Charlie to answer your question on the free cash flow and on the debt. Charlie.
Charlie Boero Hughes
Hi, Mattew. Yes, free cash flow generations are highly concentrated at the end of the year, but it happened this year mainly basically it’s going to be more concentrated in the fourth quarter. As during the third quarter, we continue going forward ethanol stocks to be sold at the end of the year.
So basically, that’s the main reason, we are very confident that we will be generating this cash at the end of the year, just as a piece of information 45% of the TRS that we would be reducing in the whole year will be sold and collected in the fourth quarter. So that’s a strong inflow of money that we will be seeing at the end of the year.
In terms of the debt structure, we always feel comfortable and having most of the debt in the long term. So far we have signed new loan with IFC, two weeks ago. This is NAV loan with that a tenure of five and seven years that they will help us to extend the structure of the debt more in the long-term.
So we are comfortable in having more than two-thirds of the debt in the long term, which is aligned with our cash generation every year. In terms of the cost of the debt – yes, in terms of the cost of the debt, we have a debt cost in dollar terms, which is slightly above 5%, actually the new loan that we have borrowed from the IFC, it’s a LIBOR six months plus four on a quarter. And in terms of real, it’s slightly below 10% in real terms.
Thank you, very much.
[Operator Instructions] And 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 course of the year, all our business lines are performing and we are very optimistic to finalize the year delivering our targeted result. We still have a lot of work ahead in the following summer months, where most of our yields are determined. So hope to see you all in our upcoming activities and thank you for joining the call. Have a good day.
Thank you. Ladies and gentlemen, this concludes today’s presentation. You may disconnect your line at this time and we wish you a nice day.
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