Marine Harvest ASA (NYSE:MHG) Q4 2017 Earnings Conference Call February 14, 2018 10:00 AM ET
Alf-Helge Aarskog - CEO
James Law - HSBC
Sam Glover - Tideway Investment
Please stand by. Good day ladies and gentlemen, welcome to the Quarterly Report International Conference Fourth Quarter 2017 Conference Call. Today's call is being recorded. I would now like to turn the conference over to today's speakers. Please go ahead.
Welcome all, this Alf-Helge Aarskog, I am the CEO for Marine Harvest and I will now go through the fourth quarter report of 2017. Start on page 3 and I quickly go through the highlights of the quarter. The result was an operational EBIT of €181 million in the quarter and this is down from €259 million in this corresponding quarter of 2016. Reason for that is a majority decreasing prices in main markets in this quarter, I would come back to that.
Cost wise Norwegian operation had a stable cost compared to the third quarter of 2017. We have initiated restructuring of Marine Harvest Norway, that is to kind of comply and to adapt the organization better to the new regulations in Norway and at the same time make it more efficient. I have a slide on that later in the presentation. We know cost has increased in this business. During Q4 we have gone through all entities in the operation and all entities have submitted potential for cost savings and we have based on this initiated a cost savings program for the €50 million also another slide on that later in the presentation.
Good performance in markets -- division and also in consumer products the value added division in Marine Harvest. We entered into a conditional agreement to purchase Northern Harvest that is fish farming operation on the East Coast of Canada and right now this is in for approval for the Canadian competition authorities. The board resolved dividend at NOK 2.6 per share and this is to be paid out in Q1 in 2018.
If you then turn to page 4 quickly on to the financial numbers, the revenue for the quarter was about the same as the revenue in Q4 2016 around €1 billion. The operational EBIT was down as I said from 259 to 181 and so down 30%. And then if you look at the Harvest volume that was up 13% from Q4 2016. Quickly on to page 5 and this is the development of the prices, maybe where we missed a little bit on the supply side here. The prices in the quarter went on to develop positively towards Christmas as expected but maybe not to the levels we thought when we presented at Q3 forecast and Q3 report. This has to do with increased supply especially from the Chilean operations.
In total the supply increased with 36% and the global supply increased in Salmon in this quarter was 16%. So, in hindsight that was as we predicted and have got pretty good within our predictions in all other countries except of Chile and to a certain extent Faroe Islands that produced a little bit less than we thought. But all in all 16% growth and more than 600,000 tonnes harvested in the quarter which is record high quarter for the Salmon industry.
If you then turn quickly on to price achievement on page 6 and here you will see that we are making money on contracts in this quarter both in Norway and especially in Scotland and then in the business with not being contracted or less so contracted in Chile and Canada. We see a lower price achievement in and around the spot price in those two production areas.
Page 7 breaks down the operational EBIT between Q4 in 2016 to Q4 in 2017. Fish feed had poor quarter in this quarter. I'll come back to that when I comment on fish feed but they experienced €13 million reduced result compared to the same quarter in 2016. Farming is down and this is because the price of Salmon in reality is down, cost is pretty stable during the quarter then you see a consumer products and markets improving their performance compared to their operations in Q4 and then we ended [indiscernible].
Onto page 8, and the Norwegian operation we are satisfied with the earnings there and the good and high contract prices on 39 or quite a big part of the volume. But still price came down and volume about the same of the salt water across the North Sea water cost up in this quarter. But all in all about the same cost as we had in the corresponding quarter in Q3 in 2017. Their cost is up compared to Q4 2016.
In this quarter we harvest from the 2016 generation and we will continue to do so during Q1 and into Q2 and in 2018. But what we see in biology is lower life levels in all the regions in Norway. And improved growth on the 2017 that will come to harvest, I think we'll start with the first sites already early in Q2 but the majority then will be harvested during Q3, Q4, and into 2019. We know cost has been issued in Norway and as well as in the rest of the industry not settling to the sea lice situation and to a certain extent the feed raw material prices over time. But saying that we need to also look at the structure of our business and we have restructured Norway from four to three regions. This is to do or to have more flexibility regarding the farming operation because in the new regulations we have flexible and maybe between three year regions.
So the regions showed on the map on slide 9 shows region one starts in the southern part of Norway and two and three. These have interregional biomass number so you can flex on there maybe, that gives you better flexibility in terms of using them maybe in that region. Region mid which is from the Bergen area north consist of productions on four, five, and six and then you see marine operatives in seven, eight, and nine. And then in 11, so we are not part in region 10 and 12 and 13. And then to really get the effect into the organization because you need to plan regional wise, this has to do with processing small output well boats and logistics and the like. It's more efficient for Marine Harvest to go from four to three regions.
Same time we save money on overhead so the potential saving directly on overhead is 3 million and then long-term also operational benefits. As you can see on the map on slide 9 we have 225 licenses, we harvested in 2017 210,000 tonnes. That number should be in an optimal year around 1200 ton per license at least. In the region north we were at 1300 even in 2017. What it means that it is possible to get even more cost reductions there going forward.
On to the sales and contract portfolio, it's on page 10 and we see that Q1 and Q2 it's about the same, around slightly north of 20,000. Q1 represents 39% of the fish from Norway contracted on decent prices going forward. The Norwegian operation on slide 11 have broken down in the four regions that was reported in 2017. This will be three regions as of from Q1 2018, we see a big variance in the result. Region South struggles somewhat with lower volume due to some gill issues from PD and from PMS that's the diseases. Region West are doing okay but not fantastic. The same goes for Region Mid, Region North and then in Region Mid I think we will see the biggest improvement going forward especially in Q2-Q3 when we get into to the next generation fish that looks very promising in this area.
If we then go down to Scotland and very good price achievement on decent contracts in this quarter. So price actually was a positive contributor. Volume up slightly but then production we had the issues that's why you see for example on salt water cost the up we had to harvest out from side to low weight and had some issues also in terms of some diseases described in the report. This is one of the new disease to the Scottish area but we think we have the solution for at least one of that.
And on to the Canadian operation, reduced spot prices here in Canada. This is a region or operation where we are basically all in the spot. So the price has pretty much a negative effect there. Then somewhat higher cost because we had not the best growth conditions in this region. We had sea lice levels but we had some issues really linked to jellyfish and some plankton in the ocean and low oxygen during the quarter that actually drove cost higher than what we like to see from the Canadian operation. We opened a new value-added plant in Surrey just outside of Vancouver in this quarter and that will supply the East Coast -- West Coast of U.S. and Vancouver area and surroundings with new products and better products for the consumer. We enter into conditional agreement to acquire Northern Harvest on the East Coast. As I said this is under the process of being approved from the Canadian competition authorities and will and can open up if approved the region on the east side of Canada.
Now Chile, higher volumes. This is when we compared the fourth quarter of 2016 which had as you can see have the impact of the algae bloom that happened in March 2016. And pretty much a full recovery volume for Marine Harvest in this quarter. Cost satisfactory but prices were quite a bit down in the quarter. Somewhat challenging situation in regard to sea lice and we expect actually the cost increase somewhat in the first quarter in Chile. Ireland, Faroe Island go quickly here, very good operations for Marine Harvest. Small but yields good profits both Ireland had a good quarter and especially Faroe Islands with very good Salmon pricing during the quarter for Faroe fish. Going forward the low volumes in the next quarter, it is small operations so not continuous supply in the Faroe Islands for Marine Harvest.
Onto consumer products this is a unit that consists of all the value added processing plants in Europe. We see that the operating revenue was up, we see operating EBIT up to 5.5% and we had a good year in many of these factories. And Morpol, that's the biggest smokehouse and value-added processor in Marine Harvest had their best year ever. The same went for Pieter it is a MAB producer in Bruges serving the Dutch market for most part. Boulogne, the French fresh portion factory. Rosyth is a combination factory, they both smoked and portions and the like in Edinburgh and for the UK market and also Stark is a white fish plant in Holland for Marine Harvest all with record good years.
When you see on demand especially on fresh fish we see growing demand towards the end of the quarter on lower prices. We saw France was up 20% in consumption of salmon of fresh origin and this are in the fresh category and the same was for the German market. So promising numbers in the consumer when they're getting lower prices they respond with buying more products. And we have seen this continuing to January with at least volumes from Norway being quite high on better prices than what we saw in December.
Fish feed, our operation in fish feed in Marine Harvest had a tough quarter. This is obviously explained by somewhat declining quarterly feed prices we benchmark, we can buy fish feed in Europe so we benchmark the price there in Norway on feed buy and then timing of raw material purchased. We bought early in the year and you can say that the timing that was feed or raw materials should have been used before but because of the lack of production we did only 210,000 in Norway. And in 2017 we were stuck with higher raw material prices than what we would like to see on our feed in this part. We also are in the middle of construction in Scotland. This is our site, you see the picture on the lower side here. This is a factory that will have a 170,000 ton capacity in Scotland, it's going after plan but some of the costs are like training, for example training of new employees that's already started has been expensed and cannot be activated into the project. So that has a direct impact on the feed result in Marine Harvest fish feed in this quarter.
If you then go to cost savings, as I already said cost has gone up in Marine Harvest, I guess in the industry as a whole. I think it is room to reduce cost and we have during the fourth quarter gone through all their units and looked at potential savings related to our production. And this specific cost we have identified. We had many, many, many cost lines but we have just grouped them here into three. And some of them that identified they have not taken into this project at all because they couldn't be quantified good enough. But all the cost is broken down that we see we can see with timelines and responsible person. So all in all I think we can do this in 2018. I think the 50% will be realized in 2018 and full year effect of all the 50 million will happen in 2019 as we gradually implement the changes around in the organization. This is a continuous effort so I think also structurally we have not really taken the advantage here, it is something we will continue to look at to possibly -- to see the possibility of expanding this program as we go forward.
I will just go quickly to financial profit and loss. We have been through the major numbers. The balance sheet, the so-called financial position on slide 21 shows an activity ration 51.7% as they are relatively solid. In cash flow net interest bearing debt while you see the numbers and I think we just go quick here now to page 23, cash flow guidance, we will continue to build Biomass and we have put aside €120 million for working capital and then we have a CAPEX program of €290 million and the expansion in this part is into fresh water projects and that is one in Region North in Norway. So there is a new hatchery to produce big small for the northern part of our operation. It's Norheim in Region Mid, also to increase the size of smoke going into our operation and Inchmore in Scotland that would produce both large smoked and fry for other facilities in that operation.
Then at sea water expansion we got the new site in Scotland during the quarter that needs to be equipped and start production. The same goes for Canada and we also start up two new sites in Chile during 2018. And this explains €30 million on expansion into farming. Then we bought 2% increased MAB capacity in Norway into the operation where we could buy it. The Norwegian production system now is traffic light system so about 50% of Marine Harvest production sites could buy this 2% and that's meaning they are in the green areas and being in the green areas means that control of sea lice in the same places is under control.
New feed plants Scotland as I said €60 million in 2018. Then the total project is €110 million, which means the €50 million spent in 2017. Consumer products continued to build organically. What we will do here is to we are relocating in Miami into an almost three time this size plant, this is because we have filled and now are over the overcapacity in our current plant so we need a bigger area. Then we double the capacity in -- again. We did so also in 2013 or 2014 and this is to produce more smoked salmon for the U.S. market because the demand is high for this product.
Interest paid €35 million, taxes paid approximately €150 million and the dividend for the quarter already at NOK 2.6 per share and there is a notice there at least for some shareholder this has relevance, it is ordinary dividend and not repayment of paid in capital as it has been up to now. Financing, I don't think I'll go through a detailed overview of the financing. We have solid financing in Marine Harvest at good terms. And more interesting on slide 25 is the supply development. I think for the first quarter in history above 600,000 tonnes and this took us a little bit by surprise, especially the growth in Chile that we actually grew by 36.6% in the quarter and the total as I mentioned about 16% globally. And this put pressure on prices and as we know.
And I think we'll see on the next slide is the price development on slide 26, 30% down in Europe in the spot prices and about 15% in the North American markets. If you put in a contract there into the European market you would see that it would be probably around the same drop in Chile and on North American and Canadian fish.
Then on to page 27, global volume by market and what market is growing and what's not and we see if you take the markets that kind of stands out a little bit in this quarter Russia is kind of turning little bit. The first quarter in a long time we have actually seen growth in Russia from low level but still it's positive signal that Russia is growing. You see on the 12 month rolling comparison it is down but then in Q4 it's up. Then the U.S. continues strong growth, 17% growth in the U.S. market. Brazil is also okay in this market and then China, Hong Kong is really to some extent taking off 36% growth in this market and partly driven by Norway being now approved for the Chinese market again. And at least for a part of the Norwegian fish frying operations.
All in all you see estimated volume at 578,500 tonnes so there's a difference of about 25,000 tonnes between harvested volume and sold volume or exported volume out of the production countries. We think that this is inventory build-up or we know that. So, it is in storage at least in some of the production countries. Europe I think that this will go up into page 28, supply growth 2018 and what we estimate the growth will be for 2018, somewhere between 3% and 8% for the year. You see the different markets and the growth we expect for the year. Q1 high percentage growth there between 8% and 14%. So and here you see that Chile is substantially still recovering from the algae bloom they had in 2016 but also there it is also Norway at the higher rate in the first quarter.
For the year, now for the remaining three quarters of the year slower growth percentage wise in volume. 2019 we don't guide on 2019 but we believe that or company believes that there would be a 5% global growth in 2019. Really none of these numbers scares us. I think it's good that this industry gets some growth and these are numbers that are good for developing new products, developing new markets in the Salmon category. Our volumes on page 29, we believe or we stand by our guiding from Q3 that we can do 249,000 tonnes in Norway, 47,000 somewhat down in Scotland that has to do with the stocking pattern and to certain extent they harvested out somewhat more fish towards the end of the year so a drop there. Slight increase in Canada from 39 to 46, Chile up to 53 from 45, and other units that's for us Faroe Islands and Ireland fairly stable at 60.
Just to take the last outlook going forward, Marine Harvest has a strong financial position and well financed as we speak and several important growth, organic growth initiatives. I've been through a few of them feed -- new feed plant in Scotland, farming and potential for growth in Scotland and Canada and in Chile and also in Norway if we can utilize our licenses better. And also organic growth initiatives in consumer products and then especially in the U.S. marketplace. Global cost saving of €50 million we've been through the program or at least part of it. Conditional agreement to acquire Northern Harvest on the East Coast we don't have a definitive date for when we get the answer, you don't get that from the competition authorities in Canada but we will hope we get it soon. And then what we see in the marketplace is supported by the numbers we see in general with higher prices in January than in December and do so on especially in both actually in North American fish but also on in Europe. And we see a positive market response in the Ukranian fresh segment which I mentioned earlier in this presentation.
Just to state again, a dividend this quarter of 2.6 per share linked to our earnings per share in this quarter. And the important notice I said before but ordinary dividend and prepayment of paid in capital as it has been up to now. So with that I think I will open up for questions.
[Operator Instructions]. And we'll hear from James Law with HSBC.
Hi, and thank you for taking my question. I was wondering if you would comment a bit on contacts on the willingness above of your retail customers and yourself to enter into contracts this quarter so far versus this last year and specifically I want to ask also value product slide page 10 showing your Norway sales contract portfolio, I think the volume including prospects for Q1 is quite a bit lower, it used to be 24,000 also in the last quarter slide, this quarter it is close to 20,000 could you just talk about that please, thank you?
Yeah, Marine Harvest does contract basically all year so that is an ongoing process in terms of entering into contracts with major partners or contract partners. There are the retail -- the major big retail chains globally. So, the interest for entering into contracts will always be there and this is ongoing negotiation continuously. So I think the interest for having contracts at least with our strategic partners is a good continue. In terms of the volume as you ask slightly north of 20,000 ton in Q1 is corresponding to 39% of the Norwegian harvest volume. And the contract policy for Marine Harvest is stated in this document back in -- I can see if I can find this slide, give me two seconds. It's on the slide 33, so well within the range, hedging rate. In Norway we will I think -- unlikely. We should try to stay below 50 for all practical purposes and 39% is within that span and this is on decent prices going forward. Hope that answered your question.
Could I ask a quick follow up, I was just curious because the amount that is contracted obviously changes from year-to-year and I was wondering whether that any part of the customer base that might just be seeing Salmon prices falling over the last year and therefore deferring any contracts being signed and any sign that people are waiting for some advice to fall further, thank you?
What we are seeing so far in 2017 is actually Salmon prices increasing. So, this is a contract between two parties I think we would be kind of reluctant as we were in Q4 with the lowest prices. And then as I said I won't go into specifics but for us obviously on strategic partners we will negotiate when a contract comes up for negotiation and we continue on. I don’t know to see specifically that people are waiting for lower prices as we speak and then in fact prices as I already said has gone up in January. And we see also a demand response in many markets being actually positive for Salmon prices at least so far this year.
Great thank you.
[Operator Instructions]. We will go to Sam Glover with Tideway Investment.
Hi, thank you for taking my questions. Two if I may, firstly, the guidance on supply growth for 2018 at the industry level, I believe that's come down since your Q3 guidance, could you just outline why that's the case? And a follow up to that question is you've talked in the past about Marine Harvest having significant excess capacity in your farming operations, can you give us an idea or an estimate on the current utilization rates across the industry as a whole and how you expect them to trend through 2018, thank you?
Yeah, guidance on supply growth, I do not have the Q3 numbers in front of me but I'm a little bit uncertain if they actually has come down. I think they are pretty stable to what was guided on in Q3 for -- maybe slightly down, maybe about 7% in…
Yes, I think Q3 you guided between well low case 4, high case 9?
Yeah, so an average of 7. I think what we haven't seen in UK biologically is dragging this down somewhat and then the uncertainty in my numbers what we saw in Chile in Q4 and what they harvested about 4 million fish more and on slightly higher average weight. I think our prediction is that average weight is not much room to grow there and what we see from the situation in Chile is issues around somewhat algae blooms and maybe not so serious so far but also a little bit on the sea lice and SRS side. So -- and also by harvesting more but the big uncertainty in these numbers as I see it is Chile where we may be lax on what numbers order. And that I don't think there is -- there are big changes from Q3. And then you ask about farming capacity and what's Northern Harvest farming capacity. I think we are in Norway we dropped more than our share, fair share in 2017. If you take 210,000 tonnes as the harvested, divided on 225 licenses we are below 1,900 or some tones in terms -- in harvested volume per license. That is low and that has to do with biological issues on 2016 generation. I think for our case a part of the recovery in 2018 the capacity in Marine Harvest we know in Region North in 2017 we did about 1300 ton per license maybe it's hard to copy that throughout Norway and the reason for that is that the license way up north is slightly bigger than licenses in the south. But there are around 1200 ton so maybe 270,000 to 280,000 ton is kind of the capacity with current MAB regulations in Norway.
Scotland we have organic growth opportunities in Scotland. Going forward 2018 we will drop down I think and we're not guiding on 2019 but that we're back to 2017 volumes and maybe above that because we're getting new sites in Scotland it is an opportunity. Canada, this is only West Coast and I think around 46,000 to 50,000 ton is in line with our capacity. We are getting some new sites there so maybe we can stretch it somewhat. In Chile we have ample room to grow more if we would like to do it. We will not and we will try to stick around 50,000 to 55,000 ton in our Chilean operations also going forward. And the reason why we're not utilizing the assets in Chile is that we are not satisfied with the regulatory framework and we think that before we really can grow in Chile still there needs to be a substantial change in direct regulatory framework. But we have 187 licensors in Chile. Today we are using -- utilizing about 30 of them so obviously we could grow more if we wanted to.
Also the price realization on Chile in Salmon has been poor and historically we have not been able to make the same level of profitability in that tune. So we would rather grow when we have excess capacity in all the units. We can grow slightly in the Faroe Islands because of higher small weight. Ireland is more difficult to get new sights but stick around the same volumes there. So, that is kind of the long-term perspective or medium-term perspective in Marine Harvest on growth. And then farming wise as of today the regulations I didn't mention the East Coast of Canada obviously Marine Harvest has potential to grow there. Going forward we will cross that bridge when we have the final verdict of the Canadian competition authorities.
For the industry as a whole I think the growth potential in Norway is within depending on the new MAB being sold. This year the government will sell up to 6% growth. But about only 50% of the production area are within yellow or within the real life forms meaning around 3% and a big growth in Norway. Some producers have some room for growth but most producers are closing to utilizing that and maybe then Marine Harvest. In terms of the rest of the world certainly the potential to grow in Chile for those who do so there are 1200 licenses in Chile. New regulations will make growth more expensive. You have to start on new license with 8 kilo per cubic meters or the first generation will be more expensive but there is still no total limit in Chile with today's regulations. So there is a potential but normally when you have the structure of the industry as it is today in Chile there and also taking a look at small stalking in 2017 was off somewhat but it is hard to see a big growth in Chile either in the next few years. I think that answers the question at least to a certain extent.
Understood, very clear, thank you.
[Operator Instructions]. And we have a follow-up from James Law with HSBC.
Sorry, this will be my last question on this call. Thank you for taking my questions again. Just coming back to cash flow and dividend policy, obviously I can see slide laying out your permits and so on, I was wondering how important is it for you and for the Board to have a stable dividend especially in U.S. where Salmon prices and therefore your earnings will be volatile?
Well, the dividend policy as you can see is kind of outlined on page 32. So the dividend levels will reflect the present and expected future cash flow generation of the company that's one. To this and the target level for net interest bearing debt is the government and we have up to that somewhat from €1.050 billion to €1.2 billion. And the reason for upping the net interest bearing debt target is really two folded. Its new feed factory in Scotland so we think the feed division can take somewhat more debt because of the increased capacity. And then we have increased net interest bearing debt target per kilo of salmon from 1.8 to 2. It's a long time since we have revised this number and the reason for changing it is we have seen over long time higher earnings in the sector. So we think that the farming side of the business can take a little bit more debt. And then as you said in the dividend policy, when this target is met at least 75% of annual free cash flow I guess quarterly free cash flow since we are giving out every quarter is distributed as dividend. This quarter we are pretty much in line with underlying earnings per share so we are about at 100% of what we earned. I guess there are different views on this. Some companies they would like to pay steadily increasing dividend every single quarter and we are more at the line that we will take a look at how much money we make, take a look at the future perspective of the sector and try to adapt dividend to our policy as far as we can. So, this quarter as I said the dividend is according to the earnings of the company which I think is much more healthy than to try to give out more than you earn, long term at least that's not sustainable.
That sounds great, thank you.
Thank you and we have no additional questions in the queue. I will turn the floor back over to our speakers.
Okay and then I would like to thank all the participant for taking your time to be part of this call and I hope at least some of it has been clarifying for you. Thank you and have a good day.
Thank you. Ladies and gentlemen that does conclude today's conference. Thank you all again for your participation. You may now disconnect.