OMV AG (OTCPK:OMVJF) Q2 2017 Earnings Conference Call August 10, 2017 5:30 AM ET
Florian Greger – Investor Relation
Rainer Seele – Chief Executive Officer
Reinhard Florey – Chief Financial Officer
Manfred Leitner – Executive Board Member
Mehdi Ennebati – Societe Generale
Henri Patricot – UBS.
Michael Alsford – Citi
Joshua Stone – Barclays
Marc Kofler – Jefferies
Matthew Lofting – JPMorgan
Operator Good morning, welcome to the OMV Group’s Conference Call. [Operator Instructions] Simultaneously to this conference, a live audio webcast is available on OMV’s website. At this time, I would like to refer you to the disclaimer which includes our position on forward-looking statements.
These forward-looking statements are based on belief, estimate and assumptions currently held by and information currently available to OMV. By their nature, forward-looking statements are subject to risks and uncertainties that will or may occur in the future and are outside the control of OMV. Therefore, recipients are cautioned not to place undue reliance on these forward-looking statements.
OMV disclaims any obligation and does not intend to update these forward-looking statements to reflect actual results, revised assumptions and expectations and future developments and events. This presentation does not contain any recommendation or invitation to buy or sell securities in OMV.
I would now like to hand the conference over to Mr. Florian Greger. Please go ahead,
Thank you, Maddie. Good morning, ladies and gentlemen, and welcome to OMV’s earnings call for the second quarter of 2017. With me on the call are Rainer Seele, OMV’s CEO; Reinhard Florey, our CFO; and Manfred Leitner, the board member responsible for the Downstream segment. Hans Leininger and the Executive Board responsible for Upstream is on a business trip and, therefore, cannot join our call today. Reinhard will walk you through the highlights of the quarter and discuss OMV’s financial performance. Afterwards, the 3 board members are available to answer your questions. Before we start the call, I would like to remind you that we decided to postpone our Capital Markets Day from September this year to March 13, 2018.
We believe by then we will be able to provide you with more insights into our midterm strategy. The new dates will also enable us to put our strategy into context with our full year 2017 figures.
And now, I would like to hand it over to Rainer.
Good morning, ladies and gentlemen, and thank you for joining us. After a very good first quarter, OMV was able to deliver again a strong operational performance. Let me start with a review of the economic environment. Following OPEC’s decision to cap production in fourth quarter here, oil prices have increased in second quarter ‘17 compared with the very weak environment in the second quarter of last year.
The oil price was up 9% to $50 per barrel. However, the oil process has weakened compared to the first quarter ‘17 under the pressure of slower-than-anticipated inventory decline. This was due to a higher-than-expected U.S. oil production and increasing output from Libya and Nigeria, which are excluded from the OPEC agreement.
Gas prices improved year- over-year due to a cold winter in Europe, rising coal prices and nuclear outages in France. The decrease quarter-on-quarter is explained by the typical seasonal development. The OMV realized gas price not decrease to the same extent as the Central European gas hub prices, this due to the longer-term locked gas agreements and pricing in countries which are not linked to the Central European gas hub.
The refining indicator margins has averaged $6 per barrel in the quarter, 29% higher than the previous year’s quarter and 11% above the prior quarter. The margin improvement was fueled by unusually strong fuel oil cracks in better middle distillates. Ethylene and propylene margins were 38% higher than the previous year’s quarter due to the planned turnaround and unplanned outages.
Butadiene margins decreased for the peak levels seen in March/April but remain on a very good level. While Asian prices decreased, the European market continues to be tight due to the turnaround season. The transformation of OMV is paying off. We actively managed our portfolio, freed up capital for more profitable investments and improved our cost base.
The results can be seen in our key financials. In the first half of 2017, we achieved a clean CCS operating result of €1.5 billion. To put this into perspective, the 6- month result is almost at the level of the entire year 2016. Those segments contributed to the strong performance. Upstream showed a sharp increase of €673 million, while Downstream improved by €221 million compared to the first half of 2016.
The organic free cash flow of €930 million more than doubled compared to the first half of 2016. In addition, proceeds from divestments contributed €1.7 billion with €2.6 billion of free cash flow before dividend payments in the first half of 2017, OMV demonstrated a good resilience in a low oil price environment.
Let me now come to the key highlights. In second quarter ‘17, OMV’s hydrocarbon production remained strong, reaching a record high of 339,000 barrels per day. This was mainly the result of an increased production from Libya. Again, Downstream proved to be a natural hedge for our business in times of low oil prices. Despite the refinery turnaround, which had a negative impact of more than €80 million in the second quarter, Downstream again generated strong earnings and cash flows.
Over the last month, we also made further progress in reshaping our portfolio. On May 21, OMV signed a memorandum of understanding with the Abu Dhabi National Oil Company. The agreement outlines the cooperation in a number of areas, including the evaluation of opportunities in refining and petchem projects.
On June 13, we closed the sale of our Turkish subsidiary OMV Petrol Ofisi to Vitol, marking another important milestone in the execution of our corporate strategy. On August 2, we divested our 50% stake in the Ashtart offshore oil field in Tunisia. OMV’s average net production from Ashtart was 3,000 barrels per day in 2016.
We also continued to work on our cost competitiveness. Despite the maintenance season, we managed to maintain our Upstream production cost below $9 per barrel. Last but not least, we are well on track with our cost-savings target of more than €250 million in 2017 compared to 2015.
Now let’s turn to our financial performance indicated in the second quarter 2017. We were able to double our clean CCS operating results to €662 million compared to the previous year quarter. Also compared with the high first quarter 2017 results, the underlying operating performance was strong, considering the negative impact of the refinery turnaround. Clean CCS net income attributable to stockholders rose by 27% to €282 million compared to the prior year’s quarter.
The clean tax rate amounted to 35%, significantly above the second quarter of last year due to a bigger share of revenues from high-tech countries in Upstream. Clean CCS earnings per share increased to €0.86 compared to the prior year’s quarter. The picture looks different if we look at the reported operating result, which was negatively impacted by one-off FX effects. In second quarter 2017, we reported net special items in the amount of €1.3 billion, thereof €1.2 billion related to the OMV Petrol Ofisi divestment.
This stems from the negative development of the Turkish lira against the euro since the acquisition of OMV Petrol Ofisi in 2010. Therefore, these group operating results came in at a minus €694 million. The group tax rate amounts – amounted to minus 23% in second quarter 2017. Net income attributable to stockholders was minus €1 billion. And earnings per share were minus €0.15.
Let me now come to the performance of our 2 business segments. In Upstream, the clean operating results substantially increased from €3 million to €259 million. This was driven by higher realized oil and gas prices as well as favorable FX effect, contributing to a total of €109 million.
The OMV realized oil price rose by 19%, while Brent increased by 9%. We recorded hedging gain of €17 million, €34 million higher than in second quarter 2016 when we recorded a loss. We also saw an improvement in our operations of €104 million compared to the previous year’s quarter. Hydrocarbon production was up by 22,000 barrels per day, reaching a new quarterly record of 339,000 barrels per day.
This was primarily due to the production contribution from Libya of 24,000 barrels per day. Production in Norway also increased despite maintenance activities at the Gullfaks field. Higher sales volumes contributed €91 million to the second quarter operating results. Strict cost management led to an improvement of €28 million with the upward revision of reserves in the fourth quarter 2016.
Depreciation decreased by €43 million. The Downstream business continues to be a key contributor to group earnings and cash flow. The clean CCS operating results of Downstream improved from €363 million to €411 million, driven by better results in Downstream Oil. The clean CCS operating result of Downstream Oil increased by almost €100 million to €382 million. This was mainly attributable to significantly higher refining and petchem margins. OMV’s indicator refining margin rose from $4.7 to $6 per barrel in the second quarter 2017.
Ethylene and propylene margins improved by 38%. Butadiene margins were very strong, substantially above the prior year’s quarter. In second quarter 2017, we successfully completed the turnaround of our fuel and petchem units at the Schwechat refinery. The negative impact on earnings was more than €80 million.
This was higher than the impact of the turnarounds from last year due to a greater complexity and a more favorable margin environment. Therefore, the earnings of the petrochemical business decreased slightly to €50 million. The contribution from Borealis declined by €18 million to €94 million related to the negative inventory effects. In addition, depreciation was lower due to the reclassification of OMV Petrol Ofisi to assets held for sale.
In Downstream Gas, the clean CCS operating results declined from €74 million to €29 million. The previous year’s quarter included oneoff and valuation effects of €41 million. The good performance in our business segments in the second quarter of 2017 is accompanied by a continued strict cost discipline. In Upstream, production costs decreased from USD 10.7 in second quarter of last year to USD 8.7 per barrel. Despite maintenance activities, we were able to keep production costs at a similar low level as in first quarter 2017. We reduced our 2017 CapEx guidance by another €100 million to €1.8 billion.
We expect investments in Romania to be lower than initially planned. In the first half of 2017 capital expenditures amounted to roughly €7000 million. Around 60% of the investments were in Upstream, primarily in Romania and Norway. In Downstream, the major spending was related to the turnaround activities at the Schwechat refinery. Exploration and appraisal expenditures are expected to come in at €300 million in 2017 as we continue to focus on low-cost regions and near field opportunity.
For the full year 2017, our cost reduction program of more than €250 million is very well on track. Let me now come to cash flow. In the first half of 2017, cash flow from operating activities increased by 19% to €1.9 billion. This was supported by OMV’s strong operational performance, higher prices as well as increased dividends distributed by Borealis. This means, ladies and gentlemen, that our operating cash flow generated in the first 6 months is fully covering our investments for the first half year as well as the increased annual dividend.
In addition, OMV received the cash proceeds from the divestments of OMV U.K. Upstream and OMV Petrol Ofisi amounting to roughly €1.7 billion. The inflow from divestments was partly offset by the first drawdown under the financing agreements for the Nord Stream 2 pipeline project. This resulted in a cash outflow of approximately €200 million. Free cash flow after dividends rose substantially to €2.1 billion compared to €27 million in the same period of last year.
This marks a record high free cash flow after dividends for OMV in a mid-50 oil price environment. Our financial profile has transformed dramatically since 2015. Thanks to a strong free cash flow generation from operating activities and divestment proceeds, OMV has managed to further reduce its net debt from €3 billion at the end of 2016 to €0.9 billion by midyear 2017. OMV’s balance sheet is very healthy, reflecting strong liquidity.
Cash and cash equivalents increased by €2.1 billion to €4.2 billion compared with the end of 2016. Also we have €3.5 billion in undrawn credit facility. The cash will be used according to our strategic capital allocation priorities. Capital expenditures strategic acquisitions, dividend payments and the reduction of debt. The gearing ratio declined to 7%. Long term, we are aiming to keep our gearing ratio below 30%. Based on the market developments in our own operational performance the first half year, we have updated our full year 2017 outlook as follows: For the second half year 2017, OMV expects the average Brent oil price at a similar level compared to the first half year, which was USD 52 per barrel.
We increased our production guidance from – for 2017 to 330,000 barrels per day. We expect the production from Libya to be about 20,000 barrels per day in the second half of 2017, and thus on a similar level as in the first 6 months of this year. Production in Tunisia, Norway and in the CEE region is expected to be slightly lower compared to the strong first half year.
Following a strong performance in the first half of 2017, we now project the full year refining margins to be higher than in 2016. 2017 CapEx is expected to come in at €1.8 billion, €100 million lower than previously assumed. Moreover, we updated our group sensitivities with respect to Brent price and euro US dollar exchange rate primarily to reflect the increased production from Libya.
You can see the details on the backup of the presentation. Before we take your questions, let me comment on the current discussions around potential U.S. sanctions against Russia. We do not expect any impact on our 2 key major Upstream projects, Yuzhno Russkoye and Achimov IV/V. The acquisition of the 24.99% interest in the Yuzhno Russkoye gas field is progressing as planned.
We have already received approval from the relevant Russian regulatory bodies, closing is expected by the end of 2017 at the latest. The negotiations for the Achimov IV/V assets involved with Gazprom are developing as we speak. We are progressing on the details on the swap agreement, which we plan to discuss with the Norwegian Ministry of Energy in autumn. We thus estimate to finalize the negotiation with Gazprom in the fourth quarter of this year. The big topic in the media with regards to the U.S. sanctions against Russia is obviously Nord Stream 2. It is too early to draw any final conclusion.
We are monitoring the situation very carefully and we’ll make an assessment when all facts are on the table. It is not clear when and in which form any decision is going to be made. In general, sanctions have not proven to be an instrument that achieve its given goal as we have seen in the last years. As mentioned by the EU President Juncker, it is not reasonable that the U.S. administration is working on unilateral sanctions for the first time.
It is in Europe’s interests to guarantee its security of supply of natural gas independently. From a European standpoint, additional quantities of natural gas are necessary as European production is in a significant decline. This is what makes Nord Stream 2 a good project. It brings additional security of supply, while at the same time guaranteeing attractive conditions for European customers. Now we are happy to take your questions.
Thank you, Rainer I would like now open the call for questions.
[Operator Instructions] The first question comes from Mehdi Ennebati, Societe Generale. Please go ahead Mehdi.
Hi, good morning Florian. Thanks for taking my question. I will ask a question on Russia. So Rainer, you say that the sanctions will have no impact on Yuzhno Russkoye and Achimov IV/V project. I just wanted to know if you were expecting to export some material gas from Achimov IV/V to Europe via Nord Stream 2. I am asking the question because Achimov IV/ V should have been started roughly at the same time than Nord Stream 2. Another very quick question on Russia.
You intend to lend roughly €285 million to Gazprom for the construction of Nord Stream 2. I wanted to know if the payments will be made before the end of the year? Or could it be postponed because of the U.S. sanctions? And just maybe an additional question on your CapEx guidance of €1.8 billion for the full year 2017, as you only spent €700 million in H1. So just wanted to know what is the reason of such a CapEx acceleration in H2 2017, especially given that the U.S. dollar is weakening compared to H1? Thank you.
All right, Mehdi. You haven’t changed. You count one for three. So I think I’ll try to answer your questions as short as possible. Well, as we speak about Achimov IV/V, we do have and we are negotiating the terms with Gazprom right now, but we are targeting an agreement with Gazprom, what we do have in place also for Yuzhno Russkoye, which means that our activity in Russia is going to end up in a wellhead business.
So we are selling the gas at the wellhead to Gazprom and the gas will move into their big pot, and I don’t care whether they are selling the gas to Ukraine, to China or to Germany or wherever, it doesn’t matter, they have to pay for the price under take or pay terms at the wellhead. So we don’t have any marketing risk or logistic risk coming with our activities, neither in Yuzhno Russkoye nor in Achimov IV/V. Well, yes, we have done the first tranche payment on Nord Stream 2, that’s your second question.
The next payment will depend on the progress of Nord Stream 2 company with the construction of the pipeline and they will have a call. But, Mehdi, to give a you guidance and idea I wouldn’t expect a cash call from Nord Stream 2 before end of the year. The CapEx guidance of €1.8 million you’re absolutely right, we haven’t spent so much in the first half year, so we have to improve our activities. But it’s as usual, year-by-year, that you will get your build from your contractors, especially at the end of the year.
Why is this so? There are many reasons for that. So we expect that the CapEx spending second half will be higher than in first half year. But you are right that there will be – that there is a reduction of some project activities. I have mentioned in my speech that in Romania, some projects were postponed or will not be realized, but there is a major impact of the delay in Nawara in Tunisia. We see some strikes in the neighborhood of our fields and the production areas, that’s the reason why we are going to have a delay of the realization of Nawara project, and that’s the reason why a shift from Tunisian CapEx from 2017 into 2018 happened.
Thanks, very much.
The next question comes from Henri Patricot, UBS.
A question on your tax rate, which increased from 20% to 35% from Q1 to Q2. You said it’s an increase of the production in higher tax countries. When I look at your production disclosure, production has gone up in [indiscernible] actually down in Norway quarter-on-quarter. And the oil price was also down quarter-on-quarter. So I was wondering if there was anything special that will explain the higher tax rate in the second quarter? And what the guidance for the rest of the year, assuming the oil price stays pretty close to where it is at the moment?
Thanks for your question. This is Reinhard speaking. The tax rate in Q2 is actually triggered by a couple of facts, some of them normal course of business, some of them also extraordinary effect. The fact that we have a shift from our revenues and our operating result from countries where we are paying lower taxes or are tax shielded into countries where we have higher taxes have the reasons that, first of all, in Austria, we had less result due to the turnover in Schwechat from our Downstream activities.
And secondly, that we have higher volumes, both in Libya and in Norway, where we have high tax rates. So this, of course, has an effect. And while we are confident that we will keep up along with the volumes in Libya and in Norway, that effect therefore will stay. Of course, the effect from Austria will be reversed because we have been starting the operations full steam again. But we also have two smaller extraordinary effects that I’ll just give you some information on.
One is indeed on Norway, where we have taken some accrual on the tax side for discussions that we are currently having on intercompany charges. And this is in the amount of some €15 million. And we also had a reduction of tax receivable in Tunisia that is in the local currency of dinar. This dinar has depreciated quite significantly. And this also has an impact of some €16 million. So those are two effects that you cannot expect to be continued in the quarter three and quarter four this year.
Okay. So tax rate something about closer to 30% perhaps?
Yes. Yes, I think this conclusion is right. We will be at around 30% or slightly lower if we are looking for the full year.
The next question comes from Michael Alsford, Citi. Please go ahead, Michael.
Thanks for taking my question. So the question on the Upstream and I guess the volume expectations into 2018. Clearly upgrading guidance in 2017 on the back of Libya production. But I’m just wondering whether you can give some sense as to sort of the building blocks into 2018regarding perhaps the decline rates for the mature assets in Austria and Romania, but then the building blocks to sort of get us towards an 2018 number. I appreciate Russia, obviously, is a big part, but if you could talk about the existing business, that would be very helpful. Thank you.
Michael, I tried to give you an answer, Hans is not here, so on our next call in autumn, he might give you more specified and detailed answer on that. What I can tell you is that in 2018, as we are expecting the closing of our transaction with Uniper, 100,000 barrels per day. This is the best estimate I can give you today. The 430,000 barrels per day are expecting that we have production in Libya also of 20,000 barrels per day. Let’s – give us some time whether or not second half is really kicking in like the first half in Libya. We are more and more convinced because the production is pretty stable. And we might go up, there is an upside potential because, right now, we are producing around more 24,000 to 25,000 barrels per day. So let’s see how much of shutdowns we have to put into our calculation. But to make a long story short, next year, OMV, the production level will be something around 430,000 barrels per day.
Thank you. And there is no rule change to the view on decline rates within the base business, still as previously? Thank you.
Yes, yes absolutely. The small decline in Romania yes, which we have discussed already. Other than that, nothing changed there.
Okay, thank you.
Thanks, Michael. The next question comes from Joshua Stone, Barclays.
Hi, good afternoon, thanks for the presentation. Ask on cost. You talked about the €250 million improvements in OpEx. Perhaps can you say how much – I guess how much you had already achieved? And then is there any potential to do more in 2018? Thank you.
Regarding our cost-savings target, we are very confident that we’ll reach, and not only reach but even surpass, the €250 million in savings potential in comparison to 2015 cost base. So this is going on very well and measures are kicking in, are implemented on all areas. So in that respect, we think that the impact will be there.
Regarding 2018, look, there is not a single year where we are not gearing for our costs and where we are not trying to improve our efficiencies. But of course, this will also, on the absolute figure, depend very much on the change in our portfolio as you might see. But on the comparison basis that we have with 2015, of course, we are trying to continue this very successful journey.
Got it. Thanks.
Okay, good. The next The next question comes from Marc Kofler, Jefferies. Please go ahead, Mark.
Hi, good morning everyone. Thanks for taking my question. I wanted to ask Rainer about the overall strategy that you’ve seen in the financial reports that you reported now, just starting to see a material improvement in the underlying operations of the business. Since you took over and became CEO, how far would you now say that the company is in terms of the progress that you’re hoping to make around the big strategic moves at the company that you’ve been making?
And I suppose I’m really thinking about that in the context of the balance sheet. It strikes me that you still have lots more firepower, if you were looking to further change or further develop the strategy. Just wondering if you can give an update on that, please, and particularly the practice that you would judge any incremental Downstream, new FID’s or project expansions?
Well, thanks, Mark. I’ll try to make it short because what you are asking is a main topic we will have in March next year when we have our strategy day with you together, so then I will go more a bit in detail. But taking your question, I would say the vast majority of the strategy I have agreed and worked out with my board colleagues two years ago is more or less done. All that is remaining is the two projects in Russia. And all the other projects we have mentioned are more or less realized.
So only Yuzhno Russkoye and the asset swap is the remaining part of our strategy. And that’s the reason why we have invited you for the strategy day next year because we will discuss with you what is the next story of OMV. And you are absolutely right that this will be also on the focus of how do we balance the company as we do see, especially in these two years, with the difficult oil price environment, that we are benefiting from the integrated structure. So it will be a Downstream storyline. In between, we will work a little bit to come up with more details on Downstream, yes. And Manfred is totally silent here, he is not ready to give you anything. So I feel sorry we have to pass the Christmas and after Christmas, we can talk about it. Yes, you’re mostly welcome. It’s an interesting story.
[Operator Instructions] The next question comes from Matthew Lofting, JPMorgan. Please go ahead Matt.
As much as Manfred has been silent, I wanted to ask a question on the Downstream, if I could. I mean Rainer you’ve referenced the strength of refining and petchem’s margin through what’s been a very good first half. Could you discuss your views in terms of the repeatability of that strong first half divisional performance? And specifically within that, how much of the circa €100 million Downstream Oil EBIT came from petchems, given that you’re sort of guiding petchem’s margins lower in the outlook for the second half? Thanks.
Thanks for the question. What we know already now in July and to a certain extent, August underway. So we having at a little bit of an advantage here. And this is the reason why I can tell you that before the background of increasing demand, especially in our market but not only, you look on the global demand for fuel, there is an increase. And this is the background for us to believe that we will most probably have lower margins in the second half of the year.
But at the end, we will come out – more or less I give you an indication of USD 5 per barrel of the refining margin for 2017. So this would be close to 10% higher than last year. As far as the petrochemical margins are concerned, we have seen a very, very strong second quarter. And this has been mainly supported by a lot of outages, a lot of turnaround in crackers, especially in Europe here. This is over now. So they will move and they will flatten out. But at the same time, what I am currently seeing is we will not be very far away from the average in the first 6 months over the year.
And if the oil price, and this is always a topic where we have the integration discussion, if the oil price is not really shooting up, then I do not see a reason why demand would then go down next year. So I think this is something which is a very good basis whatever significantly better refining margins that we have been accustomed to seeing the last couple of years, I would say. The petrochemical side in the second quarter had been impacted by 2 things. One is that we have that extended turnaround in the Schwechat refinery, as you know, and most of the €80 million, €85 million impact has been welcoming in the petrochemical part because this was the main focus of the turnaround.
And the second one is a little bit less contribution by Borealis. It’s not significantly less, but it is a bit less, and this is mainly coming from very low fertilizer economic environment as well as a certain inventory effect accumulation over a couple of months here due to declining prices. And the other reason in Borealis is that there is a certain operational problem with the unit in Abu Dhabi refinery, so the propylene coming from that unit, the feed to Borealis is currently out and this is having a negative impact on the results as well. And we are already contributing for – effectively the 36% in our operating results as well.
Thanks very much.
I don’t see any other question in the queue. I just wanted to check with the operator. Maddie, are there any other questions? Or if someone has additional question, you can, obviously, requeue.
We have no further questions in the queue at the moment.
Okay. So if that’s the case, ladies and gentlemen, we are at the end of our conference call and would like to thank you for joining us today. Should you have any further questions, please contact the Investor Relations team, and we will be happy to help you. Goodbye, and have a good day.