Eni Spa Q1 FY2022 Earnings Call

Good afternoon, everyone, and welcome to Eni's 2022 First Quarter Results Conference Call hosted by Francesco Gattei, Chief Financial Officer. I will now hand over to your host to start today's conference. Thank you.

Good afternoon. Welcome to Eni 2022 first quarter conference call. On the back of recovering demand, the energy market began 2022 with a tightening upstream as supply is impacted by a number of years of low investment, yielding sustained inventory draws and the loss of production capacity both in oil and gas. Correspondingly, downstream has been impacted by the effect of rising raw material prices and the cost of energy, albeit, refining saw rapid recovery margins in March. The impact of the Russia and Ukraine conflict has been to hasten these prevailing dynamics further, adding strain to an already tight market. The direct effect of the war on energy markets and its wider implications for the global economy means conditions have also been and continue to be highly volatile, and the outlook is uncertain. In the context of the complexity of the current market, Eni was able to achieve significant progress in its strategy and deliver excellent financial results during the quarter. The first quarter was a particularly active period in Eni's strategic transformation. We have progressed our distinctive approach of unlocking asset growth potential and crystallizing value through new business models. Despite the context of volatility and uncertainty, we successfully delivered two IPOs. Since we listed VAR in mid-February, its price increased by almost 45%. In addition, in early March, we efficiently listed NEOA, the first and biggest energy transition-oriented SPAC on the London Stock Exchange. Furthermore, we are just waiting for final authorization to effectuate the business combination in Angola with BP, which we hope to obtain during the third quarter. The IPO of Plenitude is planned for 2022 subject to market conditions. We have also announced our strategy for the incorporation of biorefining and marketing businesses into a sustainable mobility company, and this project is now moving forward. We have strengthened our partnership with Novamont, the world's leading biochemical company, growing our stake from 25% to 35%. Finally, we completed the sale of 49% of our gas-fired power plants to Sixth Street. Notably in the context of 2022, thanks to our strategic alliances ecosystem, we have been contributing to establishing alternative gas supply opportunities for Europe. We have also been widening this approach, for instance, signing agreements with Mozambique and Benin to jointly develop agriculture to supply feedstock to our biorefineries while positively benefiting local economies. By flattening our successful execution of our strategic path, in March, we accelerated the pace of 2015 at zero by improving our emission reduction target. The Board has recently authorized up to €3 billion of new sustainable senior bond issuance. Finally, we reconfirm our commitment to shareholder value and returns by announcing the 2022 distribution policy with an increased dividend and share buyback, offering a very attractive 9% combined yield based on current share prices. The strength of Eni's asset portfolio backed the strategic progress in the quarter with another solid set of results, both from an operational and financial perspective. E&P production came in line with guidance despite some unforeseen downtime in Libya and the export via CPC from Kazakhstan. During the quarter, we started up the Ndungu field, the third startup in Angola Block 15/06 in just seven months, and with the startup of the FPSO in Mexico, we initiated the first crude oil export project by a foreign company in the country, confirming once again our ability to deliver fast time to market. Exploration activity continues to be asset-led, maximizing value and contributing to the short time to market. In the first three months, we discovered over 170 million barrels of oil equivalent, mainly in Angola, Algeria, Egypt, and the Emirates, putting us on track to meet our planned guidance. It was also a robust quarter for GGP. LNG operations and our flexible portfolio allowed us to manage the volatility of the markets and continue to supply our customers. In Plenitude, we have increased our installed renewable capacity fourfold in just one year and increased our power generation to serve more than 10 million customers. In downstream, while the high cost of feedstock and utilities impacted by around €400 million compared to last year, we recorded a significant improvement in R&M, achieving positive results. Chemicals, on the other hand, remained negatively impacted by a challenging scenario. These results confirm the quality of our business. Adjusted EBIT of €5.2 billion is four times higher than last year, resulting in an adjusted net profit of €3.3 billion. Our cash flow from operations was €5.6 billion against CapEx of €1.6 billion, yielding an organic free cash flow of €4 billion that covers almost entirely our annual distribution policy. Despite funding high working capital requirements this quarter, we have also progressed on the net debt side with leverage falling to 0.18. Let's now move to natural resources in more detail. Upstream EBIT in the first quarter of 2022 was €4.4 billion, driven by our focus on high-value activities and flat cost management while capturing the prevailing market scenario. On production, we confirm 2022 at around 1.7 million barrels of oil equivalent per day, with a contribution from new startups such as Area 1 offshore Mexico, leveraging Angola and Coral floating LNG in Mozambique, plus the ramp up of Berkine in Algeria, more than offsetting production decline and lower entitlement due to the VAR IPO. We expect the second quarter production in the range of 1.61 million to 1.62 million barrels per day, mainly impacted by seasonal maintenance before the ramp-up of new production in the second half of the year. GGP recorded €0.9 billion of adjusted EBIT. International LNG activities contributed 40% to results. The recovering gas demand led to a 9% increase in volumes sold in Italy and 4% in Europe. Careful optimization of our supply portfolio is helping us manage price volatility. Considering the performance already achieved and the expected evolution of the market, and assuming no significant disruption to gas supply from Russia, we expect an annual adjusted EBIT of €1.2 billion, a 30% increase from our original guidance. The current crisis has prompted a renewed effort to strengthen energy security. We are actively pursuing alternative and additional supply opportunities for Europe, specifically Italy, leveraging our global upstream portfolio and strategic partnerships with producing countries. In the short term, 2022-2023, we are relying on pipeline additional volumes from Algeria and Libya. We expect to import extra LNG from Egypt, thanks to rising metal utilization rates, Nigeria, Qatar, and potentially Angola within existing regasification capacity available in Italy. In the medium term, we expect both gas imports via pipeline from North Africa to contribute additional volumes. This mainly considers the recently signed agreement with Sonatrach. Other LNG sources from our portfolio may also be activated, including Congo, where we signed an MOU that provides for the acceleration of certain upstream development with the corresponding increase in LNG production. In Congo, we are employing a modular and accelerated development approach, consistent with our fast time to market capitalize strategy and well-suited to current conditions. Let's move on to energy evolution. We confirm that we are on track with Plenitude IPO progress, having filed the registration document with the Italian Market Authority. We expect to float Plenitude in 2022, subject to market conditions. Our distinctive business model proves resilient even in the current market condition, where high power and gas prices and volatility generate hedged volume exposure and softer performance in retail. This was partially compensated by higher renewable profitability. We are therefore able to reconfirm full year EBITDA guidance of over €0.6 billion. In the quarter, R&M experienced some sequential improvement, mainly benefiting from a remarkable rebound of the refining margin in March, reflecting a tight market for final products, especially diesel. We have continued to focus on optimizing our activity and mitigating the high cost of energy. As a result, we were able to report a positive EBIT of €70 million compared to approximately €200 million loss in the first quarter of 2021. On chemicals, Versalis suffered a weak quarter due to a strong increase in oil-based feedstock costs and utilities expenses. Downstream pro forma EBIT for 2022 is now expected to be positive, previously negative, driven by the improved outlook for refining macro, and actions of asset optimization and efficiency initiatives. Finally, our cash balance was further enhanced notwithstanding the seasonal and price-linked absorption of working capital that impacted by €2 billion. The underlying cash flow from operations before working capital was €5.6 billion, more than 3 times CapEx, resulting in organic free cash flow of around €4 billion. For the year, we are revising our power guidance for CFFO to €16 billion at $90 per barrel, around €1 billion more than our previous estimate. CapEx in the quarter was €1.6 billion and full year is expected at €8 billion, confirming the original guidance at the same exchange rate. Capital discipline through the cycle is a critical component of our strategy. For this year, we expect competitive cash neutrality for CapEx and floor dividend of around $46 per barrel in line with the planned average of $45. Even with the working capital building and after portfolio activity in this quarter, we have reduced our net debt which now stands at an 18% leverage. Low gearing confirms financial resilience and offers strategic flexibility. Eni will update its 2022 buyback scenario assessment in July to establish the upside to the €1.1 billion buyback. The extra buyback will be equivalent to 30% of the incremental free cash flow in the event that the oil price exceeds $90 per barrel on a yearly basis. That concludes my prepared remarks. I, along with Eni's top management, now welcome your questions.

The first question comes from Michele Della Vigna of Goldman Sachs.

Thank you so much for the presentation. I had two questions. The first one really is around your fast track and exploration strategy, which clearly ideally suits Europe's need for security supply at the moment. We've seen the announcement of Algeria, Egypt, Congo, Angola, etc. I was wondering if you add up all of these incremental opportunities together, what extra volumes can you get within the next 1 to 3 years? And then staying on fast tracking, you are going to do one of the first fast tracking of floating LNG in Congo. I was wondering how much could potentially be transferred to Mozambique, where you will start up your development later in the year, but the onshore project has been indefinitely delayed due to security concerns. Could this become the new way in which gas resources can be developed with a higher return and quicker time to market? Thank you.

Thank you, Michele. I will quickly address the second question and then hand it over for further details on the other question. The floating LNG concept aims to establish a new approach and model for LNG that significantly reduces project cycles, requiring less size and lower initial capital, allowing for shorter time to market and fewer contract obligations, making the LNG model more market-driven. We are applying this concept in Congo, but we have identified many other potential opportunities as well. Now I will turn it over to Guido for more details on the question.

Okay, thank you, Francesco, and thank you for the question. In our plan, we have already projects and activities to deliver more than 450,000 barrels of gas in 2025. Given the current scenario, we have been able to unlock projects to deliver and mobilize 14 TCF of additional gas resources in Congo, Egypt, and Algeria. Sorry, a problem with the microphone. Can you hear me now? These projects are in Congo, but also given our infrastructure-led exploration, we have additional opportunities in Egypt and Algeria. This may add to our production profile in 2025 about 50,000 barrels. In terms of equity CapEx in a four-year plan, thanks to the configuration of our projects, we expect less than a 5% increase, which is well within our flexibility of our CapEx upstream. Regarding Mozambique, as you know, the operator is monitoring the security situation but is looking for opportunities to optimize the concept leveraging synergies with Area 1. On the other hand, we are pursuing opportunities to implement development of short fast track modular like in Congo, and we will come back on those as we are already engaging partners and other stakeholders. Thank you.

Thank you.

The next question is from Irene Himona of Societe Generale. Please go ahead.

Thank you. Good afternoon, and congratulations on a strong quarter. I have two questions, please. Firstly, your Q1 interest expense of €339 million is materially higher than in the previous two quarters. This is despite your declining leverage. I wonder if you can help us understand this very sharp increase? And secondly, an update on Kazakhstan, please. What is your current production level? Is there a disruption to flows, particularly through the Russian pipeline, given the weather damage reported recently? Thank you.

Yes, I will address the first question related to the interest expense. The increase that you see is mainly related to the change in interest rates, which is clearly impacting the yields. The other effect is related to foreign exchange. These are the two main drivers for the increase that you see. There are some one-off effects that are less relevant. Regarding the Kazakhstan production, I’ll pass the floor to Guido.

Our production in Kazakhstan is above 160,000 barrels of oil equivalent per day. Indeed, we had some disruption on the export line CPC. This occurred in mid-April, but in the last couple of days, this has been recovered and we are back in full production.

Thank you very much.

The next question is from Massimo Bonisoli of Equita. Please go ahead.

Good afternoon. Three very quick questions. One on the refining margin, if you can provide an indication for the average in April. The second is on the working capital. If you can provide some guidance on the remaining effect throughout the rest of the year? The third is on Novamont and the strategy of Novamont following the increase in the stake of the company. Are you considering any strategic decision there or an IPO?

Yes, thank you, Massimo. Regarding refining margins, we are observing a completely different trend compared to the last months. Refining margins were negative practically for all of 2020 and 2021, but from the middle of March, we saw a progressive increase in margins. Starting from April, the average is around more than $14 per barrel. The current figures are between $18 to $20 per barrel. The margins are materially impacted by the diesel spread currently seen in the market. In terms of working capital, you have noted an increase in absorption of working capital in the first quarter. This is normal. It’s a seasonal trend that reflects the routines in all first quarters of the year, amplified by the price scenario. This is expected to revert during the year. We anticipate about €2 billion of negative impact from working capital due to market effects that should reduce in the upcoming quarters. As for Novamont, I’d like to pass the question to our other team members for further insights.

Sure. Thank you for the question. This agreement intends to make a solid impact in the plastic sector, combining a traditional portfolio that Versalis has today, based on the polygynous market and technology, with Novamont's technology in terms of bioplastics developed over the past 20 years in green chemistry. The two companies now have different governance and participation rates. Versalis and Novamont have been discussing ways to strengthen the partnership and enhance value creation while aiming to increase market influence. This keeps the door open for possible future solutions.

Very clear. Thank you very much.

The next question is from Biraj Borkhataria of RBC. Please go ahead.

Hi there. Thanks for taking my question. The first one is on the very strong gas trading results in Q1. You raised guidance for 2022. I was wondering if you could give a little color on '23, given the expectation shown in your slides all the incremental volumes that will come through into that organization going forward? The second question is on the low carbon side. What we've seen from Eni regarding policy is an acceleration of various parts of energy. It looks like there’ll be more opportunities in low carbon than previously anticipated, particularly in Europe, as the continent looks to accelerate the transition. Should we expect Eni to accelerate its low carbon initiatives alongside the focus on short cycle gas, given strong free cash flow and sound debt profile at this point? Thank you.

Okay. I will leave it to Cristian Signoretto for the first question, then I will come back for the second.

Hello. Thanks for your question. The LNG trading business has shown strong performance this quarter for two reasons. Firstly, we had an increase in LNG availability compared to last year. Secondly, the price environment was very favorable for optimization and value capturing. Looking ahead, I would project that we have a trajectory of increasing LNG portfolio in the coming year, providing further opportunities to optimize available volumes. We believe that the LNG and gas market will remain tight for the foreseeable future, given the current geopolitical situation. Thus, I would expect a beneficial effect on this line of business.

Regarding the growing opportunities in terms of transition and low carbon, we've presented an improved and aggressive pace towards decarbonizing our activities since our last Capital Markets Day. We've added tools to our trajectory, consisting of business models, opportunities, and new financial solutions. This is not limited to just planning, but also includes the development of a sustainable mobility company. The SPAC is another element added to capture technologies and opportunities to enhance this evolution. This quarter, for example, we invested in CFS, and nuclear fusion, maintaining our leadership in that venture. Moreover, on Novamont, we are increasing our exposure to biochemicals. Eni is already committed and will continue to explore all emerging segments and businesses, including CCS, where Eni is actively pursuing opportunities. I agree with you that there will be many emerging opportunities in the current market scenario, and we will certainly be capable of accelerating in these various fronts.

Okay, thank you.

The next question is from Oswald Clint of Bernstein. Please go ahead.

Yes, thank you everyone. Just back on the global gas business, could we focus on the pipeline part of the business and the trading around that piece into Europe and Italy? Could you tell us more about what you're up to in the quarter in terms of logistics and optimize time spreads, please? I'm trying to gauge if this is the type of performance we can sustain. Regarding refining margin, there are energy utility cost headwinds against that. I know you're taking steps to alleviate that, but could you flesh those out a little? Tell us what exactly you're doing to ease those pressures? Could we expect to see some of those measures taking effect throughout the rest of 2022?

Thank you, Oswald. I will leave the second question to Giuseppe Pino Ricci, who is connected by phone, and then return to Cristian.

I will start immediately, Francesco. Regarding the refining margin, these are impacted by utility costs. However, starting from the fourth quarter of last year, we implemented numerous initiatives to reduce fuel consumption in the refineries by replacing the fuel consumption with LPG and other alternatives. We've also recently put in service a gasification plant to generate alternative gases for our power stations. Additionally, we have modified the configuration of the plants to minimize the use of steam reformers for hydrogen production, which consume high amounts of natural gas. Through these efforts, we are able to reduce fuel consumption by 70%. Thus, two-thirds of the extra utility costs are neutralized. This means that our margin gains from these efforts and in March, we recovered all the losses due to low margins in January and February, and our situation in April has improved significantly.

Now let’s go back to Cristian.

Thank you, Francesco. Regarding gas results for this quarter, the market has been very volatile. With the flexibilities and optionalities in our contracts, we took advantage of considerable time spreads. We anticipated many of the flexibilities available in our contracts during this quarter due to extreme price movements. Regarding geographical spreads in Europe, they have unfolded to unprecedented values because of current market conditions. This accounts for at least 30% of the exceptional outcome for our activities in Q1. For the future, while some of the flexibilities we have optimized, our business remains cyclical, allowing for periods when we can outperform the market, but also quarters when we may lag behind. Therefore, volatility will continue to play a role, but we are projecting a €1.2 billion result by year-end, requiring some quarters to perform below average, likely in the later winter months. However, we are optimistic that there will be opportunities to capture as they arise. Assumptions for our targets rest on steady flows and no disruptions from Russia.

Thank you. Thank you all.

The next question is from Henri Patricot of UBS. Please go ahead.

Yes, thank you for the update. Two questions, please. The first one is on your gas business and the gas supply coming from Russia. Can you give us an update on where you are in terms of the new payment mechanism? What are your expectations here? What would be the impact for Eni if there was an interruption of gas supply to Italy for any reason? The second question is just a quick follow-up on refining. Just to get a sense of the market capture in the second quarter. What should we expect in terms of utilization rate from 70% in the first quarter? Will you be experiencing more maintenance in the rest of the year?

I will address the first question and then pass it to Pino. Regarding the payment mechanism, we are continuing to assess the situation, working closely with the European and Italian authorities. We will pay for the gas delivered in accordance with the contract terms while adhering to international sanctions. The contracts will be in euros, and we will keep receiving invoices in that currency without opening any additional accounts. For details on utilization rates, I will let Pino take over.

Thanks, Francesco. In the third quarter, our utilization rate was about 70%. In March, we began ramping up the capacity of all our refineries. In the second quarter, we expect peak utilization, having moved some shutdowns to the more challenging segments of the year to minimize disruptions. This applies uniformly across Italy and Europe.

Okay. Thank you.

The next question is from Alessandro Pozzi of Mediobanca. Please go ahead.

Hi there. I have a few questions. The first one was back to refining margins, which have been very low this quarter. Clearly, the impact of higher oil prices is a positive factor. I was wondering if you could provide us with more color on the moving parts and what we should assume for the rest of the year? Additionally, can you quantify the impact of Libya? I believe that high spot prices in Italy also help in reducing the tax rate. The second question is on exploration. What are your next one or two key high-impact exploration wells planned over the next few quarters? Lastly, I noticed that in retail gas sales, there has been a big improvement in power sales and MO clients. However, regarding retail gas sales, I think it's down 3% year-on-year. Is that purely due to demand effects related to higher prices?

Thank you, Alessandro. For the exploration query, I would like to hand it over to Luca-Bertelli for an answer, then to Stefano Goberti regarding Plenitude, and finally, I will address the tax rate question.

Regarding the wells we plan to drill for the remainder of the year, we have ongoing activities planned in Egypt and Angola, alongside developments in offshore Mozambique. We will also be back drilling on Ballet discoveries this year. Finally, we have additional wells in Angola to explore as well.

Which one do you think is the most important one?

I can’t specify which one is the most important. The work has significant risk associated with it. I would suggest that all the wells provide a good package that meets our expectations.

Stefano, please provide insights on Plenitude.

Thank you, Alessandro. On Plenitude, the results were slightly weaker this quarter compared to the previous one due to volume effect. This is mainly linked to our retail clients, to whom we sell at fixed prices. As we became short in that this period, we needed to repurchase commodities to match their consumption in the first quarter. The colder forecast contributed to this situation. In terms of volumes, Plenitude did not record a specific trend in reduced consumption; in fact, the opposite seems true given higher weather conditions. You might be referring to the overall portfolio's natural gas sales in your question.

Regarding the tax rate, we have already provided guidance on a 50% rate at $70 to $80. Now that we are above that level, the composition of our results has impacted the tax rate. As oil and gas prices increase, we benefit from positive contributions from countries with lower tax rates. The contribution from GGP is also reducing the tax rate. Thus, as a rule of thumb for the year in the current pricing environment, around $95 to $100 per barrel would suggest a tax rate about 40%. The remarks regarding Libyan gas primarily relate to our upstream operations positively affecting the tax rate, contributing further to this guidance.

Okay. Thank you very much. Just a follow-up on the payment mechanism to Russia. When is the deadline for the next payment for the April gas deliveries?

You pay within the following month. Therefore, April deliveries are payable during May.

The last question is from Bertrand Hodee of Kepler Cheuvreux. Please go ahead.

Hello, everyone. I have one question left. Francesco, can you quantify the risk in financial terms? If Gazprom's gas supply were to stop for any reason, have you already committed to sell some of this gas to serve parties on a forward basis? In short, will you be able to invoke force majeure, and under what conditions? Is there a risk of a mismatch between your alternative source of supply and your already committed selling gas price?

That’s a complicated question. There are numerous different options, alternatives, and flexibilities in our portfolio. As we referenced earlier, we added extra volumes during the past month. Additionally, LNG can potentially be sourced through market opportunities. Therefore, it is too difficult now to provide a succinct answer, given many components need to be matched. Generally speaking, if there are adverse conditions, there are contractual protections and legal coverage that could be invoked for force majeure. Thus, there are various tools that can be activated in different scenarios.

Thank you. Can I ask just a follow-up? Are you still selling, let’s say, longer than 1 month ahead with expectations of your supply from Gazprom, or are you completely stopping forward sales on volumes that might ultimately vanish?

This is commercial sensitive information, which I prefer not to disclose.

Gentlemen, we have another question that has joined from Alastair Syme of Citi. Please go ahead.

Thanks, Francesco. Can I ask about the accounting treatment you've applied to Saipem? It's unclear what has gone through this quarter or what's still to come for the remainder of the year in terms of recapitalization?

We consider the contribution to Saipem that we have provided financial support toward a future increase in capital, which you will see reflect in our portfolio activity. This is essentially Eni’s contribution of €1.5 billion. That was the first step and is already included in that amount of portfolio net activity.

But is there something for the future underwriting that has to be accounted for on the balance sheet as well?

We have already included the provision for the additional increase in capital.

Gentlemen, there are no more questions at this time. Would you like to make any closing remarks?

Thank you to all for the questions. I think the quarter reaffirmed the strategic path and our execution effectiveness. We remain in contact for any additional questions through our Investor Relations team with Jonathan Rigby. Thank you very much.