Canexus' (CXUSF) CEO Doug Wonnacott on Q2 2014 Results - Earnings Call Transcript

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Canexus Corporation (OTCPK:CXUSF) Q2 2014 Results Earnings Conference Call August 6, 2014 9:00 AM ET

Executives

Doug Wonnacott - President and Chief Executive Officer

Richard McLellan - Senior Vice President, Finance and Chief Financial Officer

Brian Bourgeois - Senior Vice President of Sales and Marketing

Analysts

Jacob Bout - CIBC

Joel Jackson - BMO Capital Markets

Nelson Ng - RBC Capital Markets

Steven Hansen - Raymond James

Benoit Laprade - Scotia Capital

Operator

Thank you for standing by. This is the conference operator. Welcome to the Canexus Corporation Second Quarter 2014 Conference Call. As a reminder, all participants are in a listen-only mode and the conference is being recorded. After the presentation, there we will be an opportunity for analysts and institutional investor to ask a question. (Operator Instructions)

At this time, I’d like to turn the conference over to Richard McLellan, Chief Financial Officer. Please go ahead.

Richard McLellan

Good morning everyone and welcome. As with previous quarters, we have posted a presentation on our website to accompany our discussion today and we will refer to that document during our comments this morning. I will remind everyone to please refer to the forward-looking statement at the end of the document which includes important disclaimers about today’s discussion.

Joining me on today's call is Doug Wonnacott, President and CEO, who I will turn the call over to momentarily; and Brian Bourgeois, Senior Vice President of Sales and Marketing, who will provide you with an update on our chemicals business.

Moving to Slide 2, we will being today's call by introducing you to Doug, who was appointed as President and CEO on July 2, then we will provide you with an overview of our Q2 highlights and update on NATO and an overview of the chemical business.

At this point I would like to turn it over to Doug, who will begin speaking on Slide 3.

Doug Wonnacott

Thanks, Rich. Good morning and welcome to Canexus second quarter conference call. As Rich mentioned I was appointed President and Chief Executive Officer and a Director of Canexus Corporation on July 2, 2014. I have over 30 years of experience in the chemical industry and would describe myself as a focused, results oriented leader with extensive experience in strategic planning, marketing, production, logistics and supply chain management and terminal operations.

Prior to joining Canexus I was the Chief Operating Officer of Agri-Products at Viterra Inc., a global agribusiness company. Throughout my career, I have had the opportunity on more than one occasion to turn businesses around and generate great value and that is what we intend to do here at Canexus. My philosophy is simple, have a clear and focused strategic plan with flawless execution and we will be successful. Canexus has an impressive portfolio of assets that provide a lot of opportunity and we explore options to maximize their value.

Moving to Slide 4. I am generally pleased with the how our business performed during the second quarter of 2014. We delivered cash operating profit of $29.2 million, exceeding our results from the prior year by over 50%. The chemical business generally met our expectations. Brazil achieved record quarterly results for the second consecutive quarter. In our chlor-alkali business, we had strong demand for hydrochloric acid driven by the oil and gas sector.

Our North American sodium chlorate business had slightly weaker quarterly results, however, we expect cash operating profit from this business to return to first quarter levels for the remainder of the year. We continue to move forward at NATO. On June 17, we took the facility down for our planned expansion to install another 12 loading arms on to the loading rack and to tie the facility into the Cold Lake pipeline system. The shutdown is progressing well and we expect to be back up and operating by late August.

Advancing to Slide 5. 2014 is a year that will position Canexus for the future. We expect to complete the expansion at NATO in late August and then focus on ramping up operations to 6 to 7 unit trains per week. And we expect our base chemical business to deliver results similarly to the prior year with strong results from Brazil, solid results from North American sodium chlorate, and slightly lower expectations from our North American chlor-alkali business.

2014 is not without its challenges though. Our Q3 results will be impacted by planed shutdowns at both NATO for the expansion and in Brazil for planned maintenance. In addition, our North Vancouver chlor-alkali plan is operating at reduced rates as the plant has experienced premature degradation of the coatings on some of the anodes in the electrolytic cells. We have contracted three sets of replacements cells and expect to return to normal operating rates by late September.

With the Inter pipe limited lateral completed on July 1, 2014, Canexus is now committed to paying a monthly pipeline and facility fixed fee which will increase our cost going forward. These costs should be more than offset by revenues from customers shipping Cold Lake Blend from our expanded unit train facility once we are ramped up.

Despite these challenges, Canexus has an impressive portfolio of assets that provide a lot of opportunity. This has not gone unnoticed by others and we will continue to advance discussions with those parties that have expressed a potential interest in certain assets. In addition to our attractive chemical assets, NATO is a state of the art facility that represents the opportunity for step-change growth.

Moving to Slide 6. The planned shutdown of the unit train operation continues to progress on schedule and the Inter Pipeline limited lateral from the Cold Lake pipeline system to the Lamont Station has been completed. We expect to complete the shutdown and recommence loading unit trains in late August. Our focus for the remainder of 2014 will be ramping up operations to our contracted capacity of 6 to 7 unit trains per week. With operational experience we will be able to determine if modest de-bottlenecking projects will be needed to reach planned operating rates of 10.5 unit trains per week, sometime in 2015.

While our focus in 2014 is to complete the expansion in NATO and ramp up operations, it is important to note that our 480-acre site has multiple growth opportunities to explore other services that could complement the value of our transload business, such as using the exiting salt caverns for storage, building diluent recovery units to create the opportunity for NATO to handle railbit and improved oil-by-rail economics and backhauling condensate, given the shortage in Western Canada.

Moving to Slide 7. The regulatory environment for the shipment of hazardous crude-by-rail continues to evolve. On July 23, the U.S. Pipeline and Hazardous Material Safety Administration proposed to set enhanced standards for new and existing tank cars. Transport Canada had proposed similar tank car specifications recently as part of its TC-140, car of the future standard, but the retrofitting schedule allows for a more measured conversion timeline.

Other proposed changes by the U.S. include, rail route risk assessments, reducing operating speeds, enhanced braking systems and new sampling and testing protocols for crude oil and ethanol. Proposed regulations would also apply to the transport of ethanol and other hazardous liquids. The U.S. proposal will be subject of vigorous debate over railcar design specifications, what industry can reasonably achieve in a certain timeframe and the political need for the regulator to deal conclusively with crude oil transportation safety. How the U.S. regulator manages public opinion cannot be underestimated. We will remain engaged in the process to understand the potential impact on ourselves and our customers.

At this point I will ask Brian to provide you with an update on the chemical business units. Brian?

Brian Bourgeois

Thanks, Doug. Good morning, all. Turning to Slide 8. Overall the chemical business produced solid results in second quarter led by our Brazilian operations which for the second consecutive quarter delivered record results. Steady sales to (indiscernible) in the (indiscernible) market and an effective cost reduction program and a delay in our annual average (indiscernible) were the principal drivers behind's Brazil's second quarter performance.

North American sodium chlorate business delivered slightly weaker results compared to Q1. It's the headwinds of numerous customer mill outages due to unplanned mill maintenance and logistics constraints. We are expecting these issues to be behind us in the third quarter and forecast some stronger results in the second half of the year.

Fundamentals within the global spot markets have been consistent with our forecast. Year-to-date shipments, 0.5% ahead of prior year after a slow start and June inventory levels were on par with June 2013 levels. Likewise, fundamentals in the current North American chlorate market are stable with operating rates in the low 90%. Following a slow start, North America chlorate exports have accelerated and are estimated to total near 150,000 metric tons by year-end, similar to prior years.

Prices are steady and on the customer strengthening, should we realize modest improvement in market dynamics. All said, we continue to expect our North American sodium chlorate business to deliver results similar to last year.

Turning to Slide 9, in our chlor-alkali business, we continue to experience market challenges which we expect will continue for the balance of the year. Western Canadian caustic soda prices have been relatively flat in the past months, driven by stagnant Asian export prices. U.S. Gulf coast export prices are experiencing a similar fate. In the near term we do not expect any meaningful step change in caustic prices until global demand improves or excess capacity is rationalized.

We have seen in uptick in our chlorine business due to the seasonal water treatment business and stronger PVC production. However, prices continue to reflect an operating rate environment trending in the mid-80s. Hydrochloric acid balances tightened considerably in the second quarter, Canadian demand was better than expected due to a short sprint breakup and U.S. activity has been solid as relatively high oil and gas commodity prices are supporting higher drilling activity. Since spring breakup, rig counts and well completions have increased in both Canada and the U.S.

On the supply side, byproduct acid production was adversely impacted by planned outages tightening product availability. In light of the stronger supply-demand balances, numerous price initiatives have surfaced and acid prices are moving upward in most regions.

That concludes my remarks, Rich.

Richard McLellan

Thanks, Brian. That concludes our formal comments for this morning. Operator, at this time we would be happy to open the lines to any questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question today comes from Jacob Bout of CIBC. Please go ahead.

Jacob Bout - CIBC

Good morning and welcome aboard, Doug. I was hoping that you could expand on the statement that you made in the press release about being in advanced discussions for certain assets. Maybe talk a little bit about which assets or we just talking NATO in particular?

Doug Wonnacott

Jacob, as you certainly recognize, it's fairly early days here. And my first objective is to stabilize the company which involves getting NATO up and running and then look at opportunities so we can strengthen the balance sheet. As we look at opportunities to strengthen the balance sheet, we are looking at potential divestments. At this stage we have had interest expressed for a number of the chemical assets and certainly we have also had a number of interests with respect to the NATO asset as well. So at this stage there is -- we are not providing any specifics, but we are certainly moving down the path to shore up the balance sheet.

Jacob Bout - CIBC

Thanks for that. Maybe talk about a little bit about the work that’s going on at Bruderheim right now. I guess it's been shut down for roughly a month and half. Has there been any major surprises here and what are your thoughts as far as your current projection for CapEx?

Richard McLellan

Actually there have been no surprises. We have actually had excellent weather for the most part and have been making solid progress, Jacob. Today we believe that our forecasted cost of between 350 and 360 as announced July 2 are still very much on track and we expect to be back up with the project at the end of August to start commissioning.

Jacob Bout - CIBC

And what's the sequence of events for the start up?

Richard McLellan

Well, we will initially start to load product through the original set of loading arms that were started up back in December of 2013 and then progress on to the incremental loading arms that have been installed on the opposite side of the loading rack. And that process will take place over the tail end of August and the front couple of weeks of September.

Operator

The next question comes from Joel Jackson of BMO Capital Markets. Please go ahead.

Joel Jackson - BMO Capital Markets

Could you give some color on what the minimum take-or-pay volumes would be in Q3 that you will get paid on for both the pipe-to-rail and the manifest business?

Richard McLellan

Yes, Joel. I think we have talked at length historically around the unit train side of the business and with two of our customers we have, one in particular, we have a pure take-or-pay contract. The other one we have a partial take-or-pay contract and the third one becomes take-or-pay once volumes are nominated on a quarterly basis. So that’s how the unit train side of the business works. And then on the manifest side of the business, as we indicated in our press release, billable volumes were just over 20,000 barrels a day. I would expect that level for the month of July then we have one customer fall off and we have some contracts expiring near the end of the year that are in the process of being renewed. And we have just hired some additional commercial expertise in the company to focus on the manifest business and see if we can get volumes back up closer to capacity there.

Joel Jackson - BMO Capital Markets

So on the manifest, I think you talked about having 7 unit trains between July and October. I think that’s about 4,000 barrels a day, if my math is somewhat right. Is that suggesting that, like when you [bill out] (ph) will your billable volumes be over 20,000 for July to October, barrels per day story, or are we going to be close to that 4,000?

Richard McLellan

No, no. That will be somewhere between the two. And I don’t have an exact number that I can share with you on the phone call right now. Again, I expect July to be up in the 20,000 barrel a day range. And then for the months of August and September it will come off that a little bit but, again, it will be much higher than 4,000.

Joel Jackson - BMO Capital Markets

Okay. And what was the revenue split in the second quarter between manifest and pipe to rail?

Richard McLellan

We don’t disclose that, Joel. So I don’t have that information for you.

Joel Jackson - BMO Capital Markets

Okay. And just finally, in North Vancouver and in South America, what are your operating rates expected to be in Q3 factoring all of your guidance on the taking down of some of the plants.

Brian Bourgeois

Well, in South America we are operating at capacity.

Joel Jackson - BMO Capital Markets

In Q3?

Brian Bourgeois

In North America because of the anode issues we have, we are down slightly from where we would be approaching mid-80s, 90% operating rate.

Operator

The next question comes from Nelson Ng of RBC Capital Markets. Please go ahead.

Nelson Ng - RBC Capital Markets

Quick question on the unit train. What's your strategy in terms of contracting out the remaining unit train capacity?

Richard McLellan

Well, right now, Nelson, we continue to have discussions with both existing and prospective customers about the incremental unit train capacity we expect to have in 2015. There are no imminent contract announcements that we expect to make but there continues to be solid interest especially from existing customers.

Nelson Ng - RBC Capital Markets

I was just thinking, will you wait until you progress further on the de-bottlenecking process before you sign up any new customers or are you willing to do that now, if there is enough interest?

Richard McLellan

You know I think we are certainly willing to entertain that now. We have authorized moving forward with the addition of fourth loop track for just over $2 million. So that will help achieve higher levels of capacity by reducing the risk of their being rail service disruptions that impact capacity. And then once we are operational in late August to early September and can spent some time trying to understand if there are bottlenecks and where they are and what needs to be done, we will tackle that at that time and be able to understand more clearly when we will have capacity up at the 10.5 unit train a week planned activity level.

Nelson Ng - RBC Capital Markets

Okay. Sure. And then just kind of switching gears a bit. On the chemical side regarding the downtime and the maintenance. What's your -- I guess the first question is, are those costs, will they be recognized as maintenance CapEx and what is your maintenance CapEx budget for the year?

Richard McLellan

Well, the overall maintenance CapEx budget for the entire year is about $25 million of capital. But you also have to recognize that in addition to capital, there is always repairs and maintenance expense that doesn’t find its way on to the balance sheet. And that number is typically fairly close to kind of the same order of magnitude. So the shutdowns that occur or that have occurred in Brazil and will occur in September in the chlor-alkali business will certainly impact on operating cash flow levels at both of those facilities. And then NATO, of course, will also with the IPL lateral connection in place now, we have the pipeline in fixed facility fee. That will increase our operating cost there for the third quarter, the entire third quarter. And that will add above 3 million to cost over the quarter. And obviously, we will continue to have the same sort of cost structure even though the unit train facility is going to be down and just starting up at the end of August and into September and we won't have much of any revenue in the quarter.

Nelson Ng - RBC Capital Markets

I see. Do have an estimate of roughly how much the North Vancouver facility will cost in terms of the replacements in September?

Richard McLellan

You know, I don’t have it off the top of my head, have an exact cost forecast for that shutdown. But, again, for the year as a whole, we expect to be at the $25 million level and our year-to-date maintenance capital expenditures are disclosed in the MD&A.

Nelson Ng - RBC Capital Markets

Okay. And just one last question. In terms of the quarter, there was that $3 million settlement on the hydrochloric acid side. So is it safe to say that this is a onetime item and there are no other settlements that might take place in the near term?

Richard McLellan

Yes, we are not expecting anything in the near term. There is some potential in the future for another increment, but again, nothing overly significant.

Operator

The next question comes from Steven Hansen of Raymond James. Please go ahead.

Steven Hansen - Raymond James

Doug, a question for you about the strategy to create value here. Recognizing it's early days, I am just trying to understand and reconcile your desire to shore up the balance sheet against your suggestion that NATO does offer some pretty attractive growth opportunities and just thinking about how you are going to balance those two different priorities. Is there -- are you really looking for strategic partners here on NATO or you looking to divest singular assets or assets at whole. I am just trying to understand the broader strategy.

Doug Wonnacott

At this point in time, we haven't been specific as to whether or not we are looking to maintain a majority position, to entertain a minority position or 100% sell off. So we are continuing to explore and have conversations with interested parties, but at this point in time there is not a clear path.

Steven Hansen - Raymond James

Okay. No, that’s fair at this juncture. Maybe if I could ask it another way, if we are just trying to think about parties that you would be speaking to, is there -- for I guess NATO in particular because that’s higher to beat point. Are there particular characteristics or attributes that you are looking for, that a partner might bring to the table. Is it just purely capital, is it additional elements as well?

Doug Wonnacott

Well, we would look for the interested party to certainly bring value. Capital is one of the value buckets. Operating expertise is the other bucket that we have considered.

Steven Hansen - Raymond James

Okay. Great. That’s helpful. And then maybe one last one if I may, and I apologize if you have mentioned this earlier, but it was mentioned, I think at the outset, that there might be some de-bottlenecking needed for the terminal to reach the full 10.5 unit trains. What exactly would be required there and at what stage we expect those to start to unfold?

Richard McLellan

There is really three areas that we have identified and we have actually gone ahead with one of them. The first one, Steven, was to add a fourth loop track. And that activity is underway now and will be completed not coming out of this shutdown but shortly thereafter. The second area is the addition of a second incinerator and we are in final stages of negotiating a purchase of second incinerator unit an expect that to go ahead, and again, that’s not a large cost item either. And then the last area that we expect may require some de-bottlenecking is in the area of adding capacity through additional pumping capability. And we won't know whether that truly needs to happen until we are up and operational and get to the higher operating levels we are expecting coming out of the shutdown and then we will make a determination if something is needing to be done. We will understand exactly what that is after some operational experience and would expect then to, if there was additional pumps required, we would expect to move down that path and have things up and operational sometime in 2015.

Steven Hansen - Raymond James

Okay. Great. And actually just one last one if I may, just on rail service reliability, I understand even down of late. But have you been seeing or were you seeing, prior to going down, any challenges around rail deliverability? The winter was obviously a big challenge in the past but with the grain in prioritization of late, I am just trying to get a sense for how responsive the rails have been or whether that’s been a challenge or not, leading after the shutdown.

Richard McLellan

I won't say there has been a step change improvement over what we were seeing in winter and early part of spring. But our customers continue to have direct conversations as they are the shippers of record with the railways. We are fortunate to have both CN and CP access our site and we would expect that rail service improve as we move forward and look forward to that and building the loop track of course gives us a little more capability at the site to manage any kind of service disruptions.

Operator

(Operator Instructions) Our next question comes from Benoit Laprade of Scotia Bank. Please go ahead.

Benoit Laprade - Scotia Capital

Two questions. Maybe Rich, on the CapEx side. So if I understand correctly there is about $15 million left to be spent on maintenance. Just curious, to how much more on growth capital and I assume most of it would be Bruderheim.

Richard McLellan

Yes, that’s the bulk of the remaining capital to be spent in the year, Benoit. We have, I think through the end of June, in terms of total accrued capital on the unit train side of the project, we would have roughly $50 million left to be incurred through the balance of July, August and into September to complete the unit train expansions. So that is the single biggest piece of remaining capital to be spent.

Benoit Laprade - Scotia Capital

And all of it would be spent in Q3?

Richard McLellan

Some of it may take until Q4. I think most of it will be accrued certainly in Q3. Some of it will drag over in terms of when it's paid, presumably into Q4.

Benoit Laprade - Scotia Capital

And do you have any early indication of CapEx for '15 and the split between maintenance and growth?

Richard McLellan

Maintenance capital, I would say is likely to stay in the $25 million range and then from a growth capital perspective, we have got one project at North Vancouver which is a caustic modernization project where we are upgrading the caustic finishing area in the plant and there is roughly $20 million that will need to be spent in 2015 on that. And then the only other area where I would expect any capital would be around de-bottlenecking at Bruderheim. And as I mentioned, both the incinerator and the fourth loop track are -- fourth loop track is already going ahead but the incinerator is likely to be completed before the end of the year. And then we will have, if there is some pumping capacity that needs to be added, that would be an incremental cost that would carry into 2015. And we haven't progressed far enough to understand, number one, whether it's needed, or number two, what it would cost. But I wouldn’t expect it to be overly significant.

Benoit Laprade - Scotia Capital

And on the $20 million for North Vancouver, what would be the expected benefits from that?

Richard McLellan

The benefits are several fold. We would expect the operating cash flow or cost structure to improve by $2 million to $3 million annually. The work that we are doing allows us to stop running a large, older boiler unit and go down a packaged unit that we have, a smaller packaged boiler unit that we have, and put in place at the time of TCP. And then there is significant capital avoidance in the future. There were some older elements of evaporation towers and things in the caustic area that would have required replacement over the next few years, so that will not need to be done.

Benoit Laprade - Scotia Capital

Okay. Thanks. And lastly, switching gear, maybe for Brian. I know it's a bit early but any indication in terms of contract renegotiations on the chlorate side for 2015?

Brian Bourgeois

Well, as you say, a bit early but we are well in to the process. We have already reviewed at least two contracts for the next two or three years. We have got another two or three to go but things are progressing well and as expected.

Benoit Laprade - Scotia Capital

And would you say prices are up compared to '14 so far for these two contracts?

Brian Bourgeois

I would say they are consistent with where we see pricing today.

Operator

We have a follow-up question from Steven Hansen of Raymond James. Please go ahead.

Steven Hansen - Raymond James

Just a quick follow-up question on the growth opportunities that might surround NATO, again recognizing it's a bit early here. But how would you see some of the additional growth opportunities around NATO and maybe just ranking them in terms of attractiveness. You know, DRU, doing a backhaul and some other items as I mentioned there. Have you put your mind to those as yet and what you think the most likely or the most attractive opportunities would be?

Doug Wonnacott

I am going to turn that over to Rich.

Richard McLellan

You know we have -- our primary focus has been on getting the extension done at the facility that we are working on today, Steven. So although we started to have preliminary conversations with potential customers around DRU and the capability to ship railbit. And we believe that to be very attractive both to producers and obviously would provide incremental benefit to the site. So that in my mind is something that people are very interested in today. And beyond that, we haven't progressed exploring the backhaul of diluent quite to the same extent. But, again, there is lots of optionality at the site that bears exploring and then something that’s very attractive today is the cavern development. So we have two 800,000 barrels salt caverns on the site and as you are aware, we have laid diluent pipeline in the ground everywhere that we put dilbit pipe in the ground. So that is an opportunity we would need to permit a brine pond and construct a brine pond to be able to put those caverns into utilization. But we have already invested a fair bit of capital for which we are projecting no benefit today that we would like to progress in a reasonable timeframe as well.

Operator

There are no further questions at this time. I will now hand the call back over to Rich McLellan for any closing comments.

Richard McLellan

Thank you, everyone. We will keep you updated on our progress.

Operator

This concludes today's conference call. You may now disconnect your lines. Thank you for participating and have a pleasant day.

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