Earnings Call Transcript - CBT Q4 2024

Operator, Operator

Good day, everyone, and thank you for standing by. Welcome to the Fourth Quarter 2024 Cabot Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. Please be advised that today's conference is being recorded. Now, I'll pass the call over to the Vice President, Treasurer and Investor Relations, Steve Delahunt. Please go ahead.

Steve Delahunt, Vice President, Treasurer and Investor Relations

Thanks, Carmen, and good morning. I would like to welcome you to the Cabot Corporation earnings teleconference. With me today are Sean Keohane, CEO and President; and Erica McLaughlin, Executive Vice President and CFO. Last night, we released results for our fourth quarter of fiscal year 2024, copies of which are posted in the Investor Relations section of our website. The slide deck that accompanies this call is also available in the Investor Relations portion of our website and will be available in conjunction with the replay of the call. During this conference call, we will make forward-looking statements about our expected future operational and financial performance. Each forward-looking statement is subject to risks and uncertainties that could cause actual results to differ materially from those projected in such statements. Additional information regarding these factors appears under the heading Forward-Looking Statements in the press release we issued last night and in our annual report on Form 10-K for the fiscal year ended September 30, 2023, and in subsequent filings we make with the SEC, all of which are also available on the company's website. In order to provide greater transparency regarding our operating performance, we refer to certain non-GAAP financial measures that involve adjustments to GAAP results. Any non-GAAP financial measures presented should not be considered to be an alternative to the financial measure required by GAAP. Any non-GAAP financial measures referenced on this call are reconciled to the most directly comparable GAAP financial measure in a table at the end of our earnings release issued last night and available in the Investor section of our website. Also, as we typically do each year, I'd like to remind you that over the next several weeks, in connection with the vesting of restricted stock awards issued under our long-term incentive equity program, officers of the company will be selling shares to pay tax and other obligations related to their rewards. I will now turn the call over to Sean, who will discuss our success against our 2021 Investor Day objectives, followed by our fiscal 2024 highlights, including our cash flow results and capital allocation for the year, and finally, our 2024 sustainability highlights. Erica will review the corporate financial details and business segment results for the fourth quarter and fiscal year. Following this, Sean will provide a 2025 outlook and some closing comments and open the floor to questions. Sean?

Sean Keohane, CEO and President

Thank you, Steve. Good morning, ladies and gentlemen, and welcome to our call today. Fiscal year 2024 was marked by tremendous accomplishments for our company. We concluded our 2021 Investor Day three-year goal period, having achieved an adjusted earnings per share growth CAGR of 12%, which represents the top end of our target range of 8% to 12%. We also generated $1.2 billion of cumulative discretionary free cash flow over that three-year period, a very strong result compared to our Investor Day goal of greater than $1 billion. During our Investor Day in 2021, we launched our Creating for Tomorrow strategy. This strategy seeks to leverage our global leadership, innovation capabilities, and commitment to operational excellence to drive strong growth of earnings and cash flow. When we set our three-year targets in December of 2021, we made certain demand and market assumptions based on the environment at that time. While many of those key assumptions turned into headwinds since 2021, particularly the end market growth rates and foreign exchange rates, it hasn't impacted our focus on achieving our corporate objectives. I am immensely proud of the entire Cabot team's resilience and agility they demonstrated in navigating a turbulent global economic environment these past three years, always maintaining a focus on supporting our customers and delivering on our commitments. In fiscal year 2024, we delivered adjusted earnings per share of $7.06, an increase of 31% year-over-year, and total segment EBIT of $701 million, an increase of 15% year-over-year. In our business segments, Reinforcement Materials EBIT increased 11% year-over-year to $537 million, driven by higher volumes and improved pricing and product mix in our 2023 and 2024 customer agreements. Performance Chemicals segment EBIT increased 31% year-over-year to $164 million, as we saw our volumes reconnect with underlying demand in the second half of the fiscal year and a more normalized product mix that drove improved margins. The Cabot portfolio has robust cash flow characteristics, and our performance in fiscal 2024 marked a continuation of those fundamentals. In the fiscal year, we generated strong operating cash flow of $692 million and discretionary free cash flow of $479 million. Our cash generation power is the source of our shareholder value creation strategy. With these strong cash flows, we seek to allocate capital inside a balanced framework, focused on three priorities: first, ensuring our asset-base is well maintained to provide a reliable and sustainable offering to our customers; second, underwriting high confidence growth projects to deliver long-term earnings growth; and third, returning capital to shareholders through dividends and share repurchases. The strength of our cash flow allows us to execute against these priorities while maintaining our strong investment-grade balance sheet. In fiscal year 2024, we paid $93 million in dividends, including an 8% increase announced last May, reflecting our confidence in the long-term cash flow outlook for our company. We have maintained a continuous and growing dividend since 1968, and we would expect to continue raising the dividend over time as our earnings grow. We also repurchased $172 million of shares in fiscal year 2024, which, combined with dividends, totaled $265 million of capital returned to shareholders, representing approximately 55% of discretionary free cash flow. Going forward, we feel very good about our cash generation power, balance sheet flexibility, and future growth investment opportunities to continue driving top-tier shareholder returns. Now, turning to sustainability. Fiscal year 2024 has been a dynamic year of progress, marked by several key sustainability achievements. As we integrate sustainability into our Creating for Tomorrow strategy, we think about it in terms of being a responsible operator and through the lens of enabling applications for our customers. Ultimately, our investments in this space must generate returns because they drive efficiency in our operations through circularity, are valued by our customers and their downstream consumers, or are enabling new vectors of growth. In June, we published our 2024 Sustainability Report, highlighting our recent performance and advancements toward our 2025 sustainability goals, as well as our vision for enabling a more sustainable future. At that time, we had achieved nine of our 14 2025 sustainability goals ahead of schedule, while we continue to progress to target on the remaining goals. Among the key milestones, we achieved our goal of exporting 200% of the energy that we import, exemplifying our commitment to circularity by leveraging the waste energy in our manufacturing process to produce cogeneration power, which is CO2-free and provides a valuable profit stream. Our customers continue to seek more circular and sustainable products as they drive their growth strategies, and this represents a long-term innovation opportunity for Cabot. In fiscal year 2024, we introduced several new products made with sustainable materials, including our new universal circular black masterbatches, designed to deliver reliable performance, quality, and consistency across multiple applications. We also launched PROPEL E8 engineered reinforcing carbon black, promoting enhanced efficiency and increased durability for EV and high-performance tire formulations. Our leadership in sustainability continues to be recognized externally. We again achieved a Platinum rating from EcoVadis, marking the fourth consecutive year and placing us in the top 1% of the basic chemical sector. Additionally, our E2C product earned the Tire Technology International 2024 Award for Innovation and Excellence, highlighting our contributions to a more sustainable tire development. And finally, we are proud to have been selected by the US Department of Energy for a grant to support the build-out of the domestic battery chemistry supply chain. I'd like to take a few minutes now to elaborate on this DOE grant selection. In September, Cabot was selected for a $50 million grant by the US Department of Energy as part of the Bipartisan Infrastructure Law. We are now in negotiations to finalize the terms of that award. The grant will be used to develop a new US-based manufacturing facility to produce battery-grade carbon nanotubes and conductive additive dispersions at commercial scale. With our broad portfolio of conductive additives for the battery industry and our established relationships with the leading battery manufacturers globally, we are well-positioned to capitalize on the growth opportunity as gigafactories are constructed here in North America. This investment will help us scale the production of domestic capacity and accelerate the US battery chemistry value chain. We continue to believe that battery materials will be an important growth driver of Cabot's earnings over time as the production of batteries bifurcates into a Western market and a China market. We look forward to working closely with the Department of Energy and our stakeholders to ensure the success of this important project. Overall, we had a very strong year in 2024 and are well-positioned for the future. I'll now turn the call over to Erica to discuss the financial and performance results of the quarter in more detail. Erica?

Erica McLaughlin, Executive Vice President and CFO

Thanks, Sean. Adjusted EPS in the fourth quarter was $1.80. This performance was 9% above the same quarter last year, driven by higher EBIT in the Performance Chemicals segment and a benefit from a lower tax rate, partially offset by lower EBIT in our Reinforcement Materials segment. Cash flow from operations was strong at $204 million in the quarter, which included a working capital decrease of $39 million. Discretionary free cash flow was $105 million in the quarter. We ended the quarter with a cash balance of $223 million and our liquidity position remains strong at approximately $1.4 billion. Capital expenditures for the fourth quarter of fiscal 2024 were $92 million. Additional uses of cash during the fourth quarter were $24 million for dividends and $66 million for share repurchases. Our debt balance was $1.1 billion and our net debt to EBITDA remained at 1.2 times. The operating tax rate for fiscal year 2024 was 26%, as compared to 28% in fiscal 2023. The lower tax rate was driven by a more favorable geographic mix of earnings, impacts related to the devaluation in Argentina, and differences in withholding taxes on foreign earnings. We anticipate our operating tax rate for fiscal 2025 to be in the range of 27% to 29%. The expected increase year-over-year is driven by our outlook related to Argentina and the new OECD global minimum tax implementation, which increases our tax rate in certain lower tax jurisdictions. Now, moving to Reinforcement Materials. EBIT decreased by $11 million in the fourth quarter, compared to the same period last year. The decrease was primarily due to lower volumes, a less favorable geographic mix, and higher costs, partially offset by higher pricing and improved product mix in our 2024 calendar year customer agreements. The higher costs were driven by the timing of maintenance and other third-party spend, as well as higher expense related to incentive compensation as compared to the prior year. Globally, volumes were down 1% year-over-year due to a 7% decline in volumes in the Americas, partially offset by 4% growth in Asia Pacific and 3% growth in Europe. Volumes in the Americas were negatively impacted by the lingering effects of the weather-related events in Mexico and lower production levels at our tire customers in the Americas, given the higher level of tire imports from Asia into the region. In the third quarter, we declared force majeure at our plant in Altamira, Mexico, given the drought in the country, which caused customers to shift orders to other carbon black suppliers. This demand shift continued longer than expected and impacted results in the fourth quarter. While this impact was longer than we expected, we believe that customers have returned to their normal purchasing patterns, which is supported by our stronger regional volumes in October. Looking to the first quarter of fiscal 2025, we expect a sequential increase in EBIT, primarily due to $10 million of lower costs. We expect quarterly sequential volumes to be relatively consistent, as the increase in volumes in Mexico is expected to be largely offset by normal calendar year-end seasonal patterns.

Sean Keohane, CEO and President

Thanks, Erica. For the past nine years, this management team has driven a consistent strategy, focused on strengthening our leading portfolio of global businesses, investing for advantaged growth in applications where we have a right to win, and deploying our strong cash flow power within a balanced capital allocation framework with a robust level of cash returned to shareholders. Delivering on our commitments is paramount to this management team, and we have accomplished that despite a turbulent global environment. For the years 2016 through 2024, we have grown adjusted EPS at a CAGR of 12% and have increased our level of discretionary free cash flow from approximately $250 million to over $450 million in fiscal 2024. As we look forward, we believe our global scale, broad geographic footprint, innovation capabilities, and foundation of operational excellence will drive continued growth of earnings and cash flow. Overall, we expect fiscal year 2025 adjusted earnings per share to be in the range of $7.40 to $7.80, which represents growth of 5% to 10% from our 2024 results. We expect continued earnings growth in Reinforcement Materials and a steady recovery in Performance Chemicals. In Reinforcement Materials, we expect global volume growth and higher unit margins. The segment is also expected to have higher costs from the startup of our final air pollution control project in the US and the commissioning of our new unit in Indonesia. In Performance Chemicals, we expect the EBIT run rate we experienced in the second half of fiscal 2024 to continue into fiscal 2025, with year-over-year volume growth in the mid-single digits and steady unit margins. Foreign exchange rates, interest rates, and energy prices can all impact positioning in the range. The midpoint of our range assumes relatively consistent FX rates and interest rates moving in line with current market expectations, and we are assuming the forward curve for oil. Overall, for the company, we would anticipate lower unallocated corporate costs and lower interest expense, which is expected to be offset by lower general unallocated income, driven by lower investment income, mainly related to the cash we held in Argentina in the first half of 2024. We also have assumed the tax rate to be in the range of 27% to 29%. So, at the midpoint, it is 2 points higher than fiscal year 2024. We expect to generate strong cash flow from operations and discretionary free cash flow, driven by robust EBITDA, to support strategic growth investments and continued return of capital to shareholders. I believe 2025 will be another successful year for Cabot as we pursue advantaged long-term growth with disciplined capital allocation to drive superior shareholder returns. Thank you very much for participating in the call today, and I hope you will all join us on December 4th for our Investor Day. At that session, we will outline the next phase of strategy development for the company, key growth initiatives, as well as our next set of long-term financial targets. I'll now turn the call back over for a question-and-answer session.

Operator, Operator

Thank you so much. Please stand by for our first question, and it comes from the line of John Roberts with Mizuho. Please proceed.

John Roberts, Analyst

Hi. Great. Thank you. The silica business seems like the stronger area in Performance Chemicals. I assume that's what you were talking about in terms of the mix improvement. Could you talk about if you're seeing any slowdown in semiconductor applications or the automotive applications? Those are two markets that both seem to be decelerating right now.

Sean Keohane, CEO and President

Yeah, good morning, John. As we commented last quarter, we definitely saw a return to more normalized volumes and mix in the segment in the back half of 2024. And certainly, a piece of that was improvement in the semiconductor application, so where fumed silica goes into CMP, as you point out. And so, we saw a continuation of that certainly into Q4, and I would say it's running at fairly normal rates right now. I don't think we're seeing any particular signs of deterioration. I would say it's sort of returned back to what we would think would be normalized levels compared to what we saw in early '24 and most of '23, where it was very, very weak. I think on the automotive side, the outlook for calendar year 2025 is for auto production to grow, I think a touch lower than 2% is sort of the latest outlook. That is a downward revision, I think, from where IHS was before. They were maybe a point higher than that. But that's the expectation that we would be building around at this point as it relates to automotive.

John Roberts, Analyst

And then, what's the revenue capacity of the EV battery materials plant that you're targeting for the US?

Sean Keohane, CEO and President

The plant is set to begin operations in 2028. We are currently in the final stages of negotiations with the Department of Energy, but the overall timeline falls within that period. Production will include both carbon nanotubes and conductive additive dispersion. We expect the project to generate internal rates of return in the vicinity of 20%, with total capital expenditures estimated at around $180 million, of which approximately $50 million would be provided through this grant. This gives a general overview of the project's economics, with the startup planned for 2028.

John Roberts, Analyst

All right. Thank you.

Operator, Operator

Thank you so much. And one moment for our next question, and it comes from the line of Joshua Spector with UBS. Please proceed.

Chris Perrella, Analyst

Hi, good morning, everyone. It's Chris Perrella on for Josh. I wanted to follow up with the RM demand. What are you seeing, I guess, the return in the December quarter? And then how do you see the cadence of volumes for the year and, I guess, the dynamic between the Asian imports coming into the US and what's the latest you're seeing there?

Sean Keohane, CEO and President

Good morning. As Erica mentioned, we observed strong volume in October and a return to normal patterns after the issues caused by the Mexican drought. This is positive. For 2025, we expect global tire production growth to be modest, in the low single digits, and we foresee similar modest growth in the Americas. However, we have noticed an impact in the region due to increased tire imports in recent quarters. We do not anticipate any fundamental changes in import levels moving forward. There are indications of resistance against high import levels, like the tariffs recently imposed in Mexico on Chinese passenger car and light truck tires, effective last month, and the anti-dumping duties from the US on Thai truck tires. Additionally, it appears that Western tire producers are modifying their strategies to better defend their market share against imports. This is a fluid situation that we are closely monitoring and managing. Overall, we expect modest growth in 2025 in the Americas, with no significant changes to current import levels, though we will see how these competitive factors develop. Investment in North America’s tire sector is substantial, with estimates suggesting around $6 billion in projects underway in the US for expansion and modernization in Mexico, the US, and Canada. Therefore, we expect tire production in North America to grow in the long term to keep pace with increased miles driven and meet regional capacity needs.

Chris Perrella, Analyst

No, that's great. And just a quick one on the CapEx step-up for this fiscal year. I guess, what are the moving parts there? And what's driving the incremental rise? Thank you.

Sean Keohane, CEO and President

Yeah. So, we expect to be in the range of $250 million to $300 million, so I would say in the zone of where we've been. The midpoint of that range would be a modest increase over 2024. The primary drivers there would be the completion of our final air pollution control project in the US at a point in Louisiana, as well as the completion of our new production unit in Indonesia that will be coming online in the back half of 2025. And then finally, some spending related to growth projects in the battery space. But those would be the primary drivers of the modest increment up.

Chris Perrella, Analyst

Great. Thank you very much.

Operator, Operator

Thank you. One moment for our next question, that comes from the line of Jeff Zekauskas with JPMorgan. Please proceed.

Jeff Zekauskas, Analyst

Thanks very much. I think your battery materials demand in the United States has contracted for eight quarters in a row. Can you comment on that? What's behind that? Is it just too expensive to make tires in the US?

Sean Keohane, CEO and President

Yeah. Good morning, Jeff. I just want to clarify. I think you said battery materials have contracted for eight quarters. I think you mean, tire?

Jeff Zekauskas, Analyst

Reinforcement Materials, forgive me.

Sean Keohane, CEO and President

Yeah, sure. Well, certainly what we have seen is that Asian tire imports have increased over the last one year to two years and that's been accelerating, I would say. Now, it's important to remember that the global tire market is dependent on Asian tires and has been for some time, and that will continue, but we certainly have seen a more elevated level in the recent quarters as China tries to export their way out of economic weakness and we've seen the ASEAN countries really step up their level of exports to North America and South America. So, certainly a dynamic situation, as I just commented on, there's some pushback here, both in terms of tariffs, as well as anti-dumping duties. So, I wouldn't say it is so much a question of being uncompetitive. I think it's more a question of is China dumping tires and certainly with some recent anti-dumping duties imposed in this particular case against Thai tires, I think there are questions around that. Certainly, in the long term, the tire makers have committed a lot of capital into North America to build additional capacity and to modernize plants, which are much more automated than they used to be. So, given the level of automation, the low electricity costs, the fact that synthetic rubber is very competitive here given the competitiveness of the petrochemical industry in the US, I think all of those factors would say that it is a competitive place to make tires and a place where a significant amount of capacity is going to be needed to support the growth in the industry. But there are forces at play right now from a trade standpoint that I think are pushing against each other and we'll have to see how those shake out here in the coming months and year.

Jeff Zekauskas, Analyst

So in the context of all that, how are your price negotiations going in the United States for the upcoming year? Is your general expectation that you'll be up, down, or flat, or you can't tell?

Sean Keohane, CEO and President

Yeah. So this year, negotiations, Jeff, are playing out along the timeline that's historically happened, where most of the contracts are finalized in the fall here. So we're in the midst of those discussions with customers as we go right now. So it would be inappropriate for me to comment on contract outcomes, given the competitive nature of that information. Now, with that, I would say the environment in Europe remains firm, I would say. Demand in the Americas is certainly impacted by the near-term elevated Asian imports, but the long-term supply side fundamentals haven't changed here with no new capacity adds and higher costs related to environmental regulations. So I would say that supply side picture remains the same. Now, as we indicated in our guide, we are expecting margin improvement in Reinforcement Materials in the fiscal year. So, that's our current expectation.

Jeff Zekauskas, Analyst

And maybe quickly, two other issues. Can you tell us how your battery materials business did for the quarter and for the year, both in terms of sales and EBITDA in 2024? And are you beginning to get energy benefits in Europe as gas prices have moved up?

Sean Keohane, CEO and President

Sorry, Jeff. Just repeat the last part of that question. It faded out. Energy benefit in Europe? I didn't get the last part.

Jeff Zekauskas, Analyst

Yeah. So, natural gas costs in Europe are now, I don't know, $13 an MMBtu.

Sean Keohane, CEO and President

Yeah.

Jeff Zekauskas, Analyst

Does your cogeneration capabilities in Europe provide any advantages?

Sean Keohane, CEO and President

We saw an increase in battery volumes in 2024, and aside from investments in future projects, our profit margins improved. However, we are making significant investments to support future initiatives, including a recent project announced with the Department of Energy in the US. While there is progress, the competitive landscape in China continues to dominate, with 75% to 80% of battery production taking place there. We believe that as the market evolves, we will see a balance by the end of the decade, with production split 50-50 between China and other regions. The pricing and profit margins differ significantly between these areas, and currently, our sales and margins outside of China are substantially better. As this shift occurs, we anticipate that profits in this product line will grow and contribute significantly to the overall earnings of Cabot Corp. Regarding energy prices, each cogeneration facility is unique in terms of the energy produced and the pricing markers used. Overall, the forward curve for oil is slightly declining, which could create some pressure on profits from energy centers in 2025. However, this situation is dynamic and highly dependent on the pricing of the underlying energy, which can change rapidly.

Jeff Zekauskas, Analyst

Thank you so much.

Operator, Operator

Thank you. Our next question is from Laurence Alexander with Jefferies. Please proceed.

Dan Rizzo, Analyst

Good morning. This is Dan Rizzo on for Laurence. You talked a bit about maintenance costs in Q4, and I was just wondering what the outlook is for maintenance costs and maybe turnarounds in '25 versus '24, if it's going to be less or more, or how we should think about it?

Erica McLaughlin, Executive Vice President and CFO

Hi, Dan. This is Erica. So maintenance was higher in Q4, we talked about in Reinforcement Materials. We would expect the cost picture going into Q1 to be down. So, as I commented, we would expect a $10 million decrease in cost from Q4 to Q1. In the Performance Chemicals segment, there were maintenance costs in Q4. We expect relatively flat performance on EBIT there. So, we wouldn't expect a big change as you think about Performance Chemicals.

Dan Rizzo, Analyst

I was considering the entire year, not just the first quarter. I'm uncertain how that will unfold.

Erica McLaughlin, Executive Vice President and CFO

Yeah, I think, from a maintenance perspective, there wouldn't be a material change year-over-year to think about on the fixed cost profile for the segment related to maintenance.

Dan Rizzo, Analyst

All right. Thank you.

Erica McLaughlin, Executive Vice President and CFO

...related to maintenance, yeah.

Dan Rizzo, Analyst

No, that's very helpful. Thanks. You mentioned that the Western tire producers are defending their market share, which I assume means they're being aggressive with pricing. I'm curious if you view it the same way and how that might impact your contracts and outlook.

Sean Keohane, CEO and President

I think there is some evidence in the tire retail channel and industry reports indicating that Western tire manufacturers are becoming more aggressive in defending their market position, particularly with their Tier-2 brands. They have been promoting high-value tires, specifically those 18 inches and larger, which is a growing segment compared to smaller rim sizes. Given the high level of tire imports, it makes sense for them to take measures to protect their market share in more competitive areas. We'll need to observe how this develops. Additionally, the trade situation plays a role, as tariffs and anti-dumping duties are currently in place. It’s uncertain whether further actions will occur due to the new US administration’s trade policies. However, it seems clear there is a pushback against high levels of imports, which will influence the demand for carbon black in the region. Our current perspective is for modest improvement in carbon black demand in the Americas by 2025.

Dan Rizzo, Analyst

Thank you very much.

Operator, Operator

Thank you so much. And as I see no further questions in the queue, I will conclude the Q&A session and turn the call back to Sean Keohane for final remarks.

Sean Keohane, CEO and President

Great. Thank you very much, Carmen, and thank you all for joining our call today. And I do hope you all can join us on December 4th for our Investor Day, where we look forward to discussing the next phase of strategy development for the company, our priority growth investments over the next three years, as well as our next set of long-term financial targets. So, hope you all can join us, and thank you very much for supporting Cabot, and we look forward to seeing you soon.

Operator, Operator

And thank you all who participated in today's conference. You may now disconnect. Good day, everyone.