Methanex Corp Q4 FY2022 Earnings Call

Good morning, my name is Regina and I will be your conference operator today. At this time, I would like to welcome everyone to the Methanex Corporation 2022 Fourth Quarter Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. I would now like to turn the conference over to the Director of Investor Relations at Methanex, Ms. Sarah Herriott. Please go ahead.

Thank you. Good morning, everyone. Welcome to our fourth quarter 2022 results conference call. Our 2022 fourth quarter news release, management's discussion and analysis and financial statements can be accessed from the reports tab of the Investor Relations page on our website at methanex.com. I would like to remind our listeners that our comments and answers to your questions today may contain forward-looking information. This information, by its nature, is subject to risks and uncertainties that may cause the stated outcome to differ materially from the actual outcome. Certain material factors or assumptions were applied in drawing the conclusions or making the forecast or projections, which are included in the forward-looking information. Please refer to our fourth quarter of 2022 MD&A and our 2021 annual report for more information. I would also like to caution our listeners that any projections provided today regarding Methanex's future financial performance are effective as of today's date. It is our policy not to comment on or update this guidance between quarters. For clarification, any references to revenue, average realized price, EBITDA, adjusted EBITDA, cash flow, adjusted income, or adjusted earnings per share made in today's remarks reflects our 63.1% economic interest in the Atlas facility, our 50% economic interest in the Egypt facility, and our 60% interest in Waterfront Shipping. In addition, we report adjusted EBITDA and adjusted net income to exclude the mark-to-market impact on share-based compensation and the impact of certain items associated with specific identified events. These items are non-GAAP measures and ratios that do not have any standardized meaning prescribed by GAAP and therefore, unlikely to be comparable to similar measures presented by other companies. We report these non-GAAP measures in this way because we believe they are a better measure of underlying operating performance and we encourage analysts covering the company to report their estimates in this manner. I would now like to turn the call over to Methanex's President and CEO, Mr. Rich Sumner for his comments and a question-and-answer period.

Thank you, Sarah and welcome to all of you. We appreciate you joining us today as we discuss our fourth quarter and full-year 2022 results. I'm excited to be leading the Company and to be having my first earnings call since becoming CEO of Methanex on January 1. In December, we announced changes to the executive leadership team or ELT with a few longstanding ELT members retiring. I want to thank them for their significant contributions to the Company. The new members of the ELT all have extensive industry experience and as a team, we all share a passion for safety and value creation. Now let's turn to a review of our fourth quarter and full-year 2022 financial results. For the fourth quarter, our average realized price of $373 per ton generated adjusted EBITDA of $160 million and adjusted net income of $0.73 per share. Adjusted EBITDA was lower in the fourth quarter, primarily due to lower proceeds from the redirection and sale of natural gas in Egypt, partially offset by the benefit of a decline in gas and logistics costs. In 2022, we recorded annual adjusted EBITDA of $932 million and robust adjusted net income of $343 million or $4.79 per share. Combined 2021 and 2022 are the highest adjusted EBITDA and operating cash flows in the Company's history. I'm proud of the team for delivering another year of strong financial results and I'm very excited for the Geismar 3 plant coming online this year as it will further enhance our cash generation capability. We estimate that global methanol demand increased slightly in 2022 to 88 million tons. Methanol demand in the fourth quarter was down approximately 5% compared to the third quarter of 2022, primarily driven by lower MTO operating rates. MTO affordability was under pressure from low olefins prices leading to lower operating rates and some plant outages. Demand from traditional chemical applications was also slightly lower due to lower consumer spending, year-end destocking in Europe and Asia, and continued lackluster demand in China due to COVID-19 restrictions. Demand from energy-related applications was relatively stable in the fourth quarter. Industry operating rates in the fourth quarter were similar to the third quarter with lower operating rates in China and Iran due to the seasonal diversion of natural gas to meet power demand offset by stronger operating rates from the Atlantic region. High coal pricing in China continues to provide support to the methanol cost curve. We estimate the industry cost curve based on the marginal coal producer costs in China to be approximately $330 to $350 per ton, with coal pricing continuing to remain well above RMB1,000 per ton levels. Based on these industry supply and demand fundamentals, we're seeing relatively balanced markets in the Atlantic and tight markets across Asia and China, underpinned by high energy pricing globally. Our February posted prices remained stable in North America and increased in Asia and China. Less volatile spot prices in the fourth quarter, primarily in China led to a lower discount rate of 20.5% compared to 21.5% in the third quarter. In 2022, we had an average discount rate of 21% and in 2023, we had a similar discount rate. We continue to monitor the macroeconomic and energy price environment, we see potential demand upside from the reopening in China following the Lunar New Year given the significant methanol demand in China, as well as in Asian countries with strong economic ties to China. We continue to see a high global energy price environment, which enhances methanol's cost competitiveness against alternative fuels, supporting demand growth. Interest from the green industry and orders for dual-fuel vessels able to run on methanol continue to grow. Based on existing dual-fuel ships and orders to date, demand potential grows from approximately 300,000 tons today to 3 million tons over the next few years. On the supply side, we do not anticipate any capacity additions outside of China in 2023, besides our Geismar 3 project, which is expected to start production in the fourth quarter. Turning to operations, our production levels were higher in the fourth quarter compared to the third quarter as the Egypt plant restarted after an extended turnaround. We had higher gas availability in Chile and New Zealand and no planned turnarounds. We did experience unplanned outages in Geismar, Chile, and Trinidad that impacted the fourth quarter production. In 2023, we have three planned turnarounds, which will be undertaken sequentially and completed by September. Our forecasted production for 2023 is approximately 6.5 million equity tons, excluding production from G3. Although actual production may vary by quarter based on the timing of these turnarounds, gas availability, unplanned outages, and unanticipated events. We ended the fourth quarter in a strong financial position with approximately $806 million of cash, excluding non-controlling interests and including our share of cash in the Atlas joint venture and with $600 million of undrawn backup liquidity. Construction on our Advantage G3 project is progressing safely, on time and on budget with production expected in the fourth quarter of this year. The expected G3 capital spend remains unchanged at $1.25 billion to $1.3 billion and we spent approximately $910 million before capitalized interest to the end of the fourth quarter. The remaining $415 million to $465 million of capital expenditures, including approximately $75 million in accounts payable is fully funded with cash on hand. We are looking forward to adding G3 to our asset portfolio as it will enhance our cash flow generation capability and lower the CO2 intensity of our portfolio. Looking ahead to the first quarter of 2023, we continue to see a strong methanol pricing environment and we expect slightly higher production in the first quarter compared to the fourth quarter. I'd also mention that our sales of produced product were meaningfully lower than our production for the fourth quarter. As a result, we're expecting much higher sales of produced product and higher adjusted EBITDA in the first quarter of 2023 compared with the fourth quarter of 2022. In the medium term, the methanol market outlook is positive and we have growing cash flow generation capability with G3 production expected in the fourth quarter of this year. At $375 per ton realized methanol price and $4 per MMBtu gas, we expect G3 to generate approximately $250 million of EBITDA per year. With our G3 projects being fully funded with cash on hand and our ability to generate meaningful cash flows across a wide range of methanol prices, we are well positioned during this period of economic uncertainty to maintain a strong balance sheet, pursue economic value-added growth opportunities and continue returning excess cash to shareholders. We would now be happy to answer questions.

Our first question comes from Joel Jackson with BMO Capital Markets. Please go ahead.

Hi, good morning, Rich. Congrats on your first quarter as CEO.

Thanks, Joel.

If I look at what's going on in the market, pricing is about similar in Q1 as Q4, gas prices are lower, you have a lot more sales. Would you not say that Q1 earnings should be significantly higher than Q4? Is there anything you can do to kind of quantify a bit more?

I think you probably can put it together. I think the much higher produced sales do that. If you kind of look at production and then think about our inventory balance, you can probably project what that means in terms of produced sales. And you're right Joel, in this environment where margins are strong, we're expecting much higher earnings along with that.

And then New Zealand production is starting to come back, but it seems like a slide here, and maybe some of the Chile production in '23 looks a bit not growth there. I'm wondering if there is one of the turnaround is happening in Chile this year, and then more generally like I know we're in '23, but can you maybe talk about as you get into '24, how might Chile and New Zealand volumes look better, like what's on the table, considering all the things going on in those countries and Argentina?

Sure. Yes, maybe I'll start with New Zealand. So in New Zealand, as you know we've got gas contracts that go out to the end of the decade. We're a big gas consumer there, so we work closely with our gas suppliers on their drilling campaigns to support our contracts and our 2023 forecast is based on what we see as a relatively tight market in 2023. We continue to be optimistic with their drilling campaigns, as well as their well maintenance activities that are going to happen this year on the outlook for more incremental gas to the two plants at Motunui. Long-term or medium to longer term, we think it's favorable dynamics in New Zealand. The Taranaki Basin is a well-developed basin that retains reserves that are economic gas and in the high energy price, there is associated gas that comes with that. We also think we're a big consumer in the region and the other consumption isn't power and increasingly, I think New Zealand's recognizing the importance of gas for power generation. So we're cautiously optimistic there and we're going to continue to work really closely with the gas suppliers. So that's kind of New Zealand. When we talk about Chile, we've got gas coming into Chile from suppliers in Chile. But that gas happens all year round, and then we have gas coming from Argentina which happens outside of the winter months there. We are forecasting a similar gas supply as 2022 and 2023. We continue to work with in particular with suppliers in both Chile and Argentina. Argentina, there are quite positive things happening within Argentina that we think can significantly change the balance there. One is that there is a lot of development happening in the Neuquen Basin and the Vaca Muerta Field and there's pipeline connections being made which likely would supply domestic markets there and reduce the need for imports of LNG. And it also depends on gas in the South, where our plants are and there's investments happening in the South. There is an investment by Total and Wintershall, a $700 million project, where they're developing gas. It's meant to come online in the next year and a half or so. So we're continuing discussions there and remain again optimistic of future gas, but things have to happen in Argentina for that to unfold.

And just finally, if I could be greedy here. Can you tell me at G3, did commissioning start in January? As part of that question, how many months did it take from first commissioning to first production at both G1 and G2 and would a similar timeline make sense for G3?

Well, I guess it depends on your definition of commissioning. When we're commissioning a plant, what we're doing is as the different systems and the plant are complete. We're handing it over to the commissioning team. So as of right now, the power supply system is being commissioned and handed over to the team. That will continue to hand over different parts of the plant as they become available. So all that is built into our timelines when we say production in the fourth quarter and that we think once we actually get to starting up the plant, it's a matter of weeks not months because of all that pre-work done by the commissioning team.

Okay. Thank you.

Your next question comes from the line of Ben Isaacson with Scotiabank. Please go ahead.

Thank you very much and good morning everyone. Rich, I just want to figure out 2023 in terms of demand. There is a big story about China starting to reopen this year and the U.S. and the EU perhaps going into recession. And you mentioned that we had about 88 million tons of demand in '22. Can you talk about where incremental demand comes from in '23? Is it going higher or is it going lower? And what about incremental production? So you said that outside of China, G3 is the only asset coming online, but what's happening in China? How much new production or change in production do you expect to see?

Certainly. The demand question is quite broad, so I'll address it directly. We categorize demand by region and segment. Traditional chemical applications make up 50% of demand, MTO accounts for 15% to 20%, and other energy applications represent 30% to 35%. A large share, around 60%, of overall demand comes from China, with an additional 10% to 15% from other Asian countries. Examining this demand regionally and by derivative indicates that all applications in China and Asia could benefit from China's reopening. Forecasts suggest growth rates of 4% to 5% or higher in China post-reopening, although we have yet to see a spike in demand preceding the Chinese Lunar New Year. However, we are observing increased activity in China as it reopens, so we remain cautiously optimistic about all applications. For MTO, last year we noticed a 15% decrease in demand primarily due to two major plants, one of which has restarted but another consuming over 2 million tons remains offline. The continued downtime appears linked to refinery expansion and the commissioning of a naphtha cracker prior to the downstream derivative. We believe that MTO will restart once everything is commissioned, and we anticipate new Iranian supply becoming available after winter. Although the olefins market has faced challenges, we think MTO remains competitive with naphtha and may see further developments. Regarding new capacity in China, we expect around 1.5 million to 2 million tons to come online this year, mainly from cooking gas. This will be offset by the ongoing shutdown of smaller, inefficient plants in China, which means that the net addition of 1.5 million tons is minimal relative to the overall demand and growth. I'll pause here for any follow-up questions.

Yes, that's perfect. I was surprised that during China's lockdown last year, the thermal coal prices didn't drop significantly, and as a result, the marginal cost of methanol remained stable. Now that China is starting to reopen in 2023, I'm curious about the potential downside to the core price. It seems like the cost curve has considerable support at its current level or possibly even higher. Do you have any insights on what might disrupt the cost curve this year?

It's challenging to navigate in a high energy price environment. China is importing significant amounts of energy, including LNG, oil, and coal. Last year, they faced difficulties in increasing coal supply, partly due to labor and COVID restrictions that limited mining operations. While some restrictions may ease, many mines have already been extensively worked, making further mining a safety concern among other issues. Investing in large-scale mining is complex and requires time to ramp up production. Therefore, we anticipate tight coal markets. It appears that China might be looking to increase imports and is considering lifting the ban on Australian coal, but imports only account for about 5% to 10% of China’s overall thermal coal demand, so it's unlikely to significantly impact coal prices. I hope this information is helpful.

That's great, thanks so much.

Your next question comes from the line of Steve Hansen with Raymond James. Please go ahead.

Yes, good morning guys. Appreciate the time. Just a quick clarification question on the discount rate. Rich, I think you referenced the '23 rate as being similar to what we saw in the fourth quarter. I just wanted to clarify some of your opening remarks.

Yes, that's correct Steve. We're guiding to 21% for 2022.

Perfect. Thank you. Appreciate that. And then just a follow-up on Joel's question earlier around some of the production basins. I just wanted to clarify a bit more in New Zealand. I think the guidance is relatively flattish on the year, but just curious, because you didn't have a couple of large turnarounds. Was there a turnaround in the period last year? And so, is it just a conservative guidance that we can get an uplift this year or is it just the gas supply, just trying to reconcile the two?

No, the gas profile is similar to last year.

Okay. Fair enough. And then just lastly around capital allocation. You've got a good cash position here to finish off G3. When should we start to think about sort of like the next stage of capital allocation in terms of comfortability on accelerating the buyback or pursuing the buyback more aggressively as the cash flow opportunities are set to improve?

Yes, so we're really happy with where we are today. Our balance sheet is in a really good position with about $800 million on the balance sheet with $465 million left to spend on G3 and we're maintaining our minimum cash balances at $300 million. So we don't see a lot of excess today. We will be generating at today's methanol prices with our assets operating, generating strong cash flow. We're obviously going to be cautiously watching things and still moving through a period of economic uncertainty here. But we have options for excess cash. So like you said, we can accelerate the current bid, it's still around over $100 million at today's share price. That number is getting bigger every day. And then if we can upsize the bid as well, which would mean going to 10% of the public float, would be another around $100 million. And then we've said that we want to repay rather than refinance our $300 million bond coming due in 2024 and we think we can do that in stages rather than all at once. So we have options, we're going to be looking at our options and obviously first priority is to keep a strong balance sheet through this period and ensure G3 is completed.

Your next question comes from the line of Jacob Bout with CIBC. Please go ahead.

Good morning.

Hey Jacob.

Yes, I wanted to go back to that discussion on China and your thoughts on the low MTO affordability that we're dealing with right now. One, does that improve? Because I thought part of the discussion, there was just the overcapacity situation for the Chinese olefins market given the ramp and new capacity there?

Yes, so the olefins market has been under pressure for well over a year. That's on the back of both, like you said, the new capacity that's been coming into the market, as well as the economic demand for olefins. So kind of a double whammy there. That's impacted the affordability for both Asian naphtha producers as well as MTO. We think MTO, it's been competitive to naphtha through that period. But it's been tough for all producers in that sector. When it gets back into balance, it's sort of hard to predict. We think that on the demand side, certainly the opening up of China could help support on the demand, but there is new capacity and required rationalization of operating rates. We don't really think the olefins pricing is so low right now, it's low-low. It's hard to see it going further down from here, but we'll see what happens. So, we think there are some positive signs with demand that could help balance things out, but still need that rationalization in that industry.

Okay. And then my second question just on the Trinidad gas contract. Maybe just talk through where you are in the negotiations for Titan. And this contract for Atlas, will you be doing this at the same time? And then what are the structures of the gas contracts being considered?

Yes, for Trinidad, we want to engage with the National Gas Company of Trinidad regarding both Titan and Atlas. The NGC is currently involved in multiple discussions. One area of focus is the upstream sector, where they are negotiating with major players. They are also working on establishing a standard ownership interest across all LNG trains and initiating talks with downstream parties. This marks positive progress in various areas. We are aware that NGC has signed an upstream contract with BP and reached an agreement on LNG unitization, set to conclude in the first quarter. Both developments foster a better atmosphere for initiating commercial discussions with the petrochemical sector, which we plan to pursue this year. Additionally, the Biden Administration recently granted Trinidad a license to develop the Dragon field in Venezuela, a fourth trillion cubic feet field. This is encouraging, especially considering the existence of an even larger field adjacent to Trinidad and Venezuela. This creates opportunities for further advancements. We will provide more updates as progress unfolds throughout this year.

Okay. Thank you.

Your next question comes from the line of Laurence Alexander with Jefferies. Please go ahead.

Good morning. Could you give some detail on how you're seeing the evolution of the Marine methanol demand and your line of sight to demand growth over the next couple of years? And what you're seeing in China for both DME and industrial boiler demand?

Sure, I'll start with the Marine Fuel. This is a really exciting area for us. We're seeing a lot of interest right now. We as of today, there are both ships that are on the water as well as orders that are on the books today. It's over 100 vessels that, if run on methanol 100% of the time, would equate to 3 million tons of demand. But we also know that all major shipping companies are looking at methanol, either committed to methanol or looking at methanol in the container space. So that's Costco, HMM, Maersk, CMA, CGM and others. So really exciting there, but we're also seeing interest in all other sectors. Cruise lines, Disney just committed to their first large cruise vessel, ferries have done the first converted ferry vessel. And then we know tug boats, dry bulk, et cetera. So we are really interested. We're supporting that area, we expect to see it grow, continue to grow. We're supporting in a number of different ways, trying to really help shipping companies understand the technology of methanol, the logistics, the availability of methanol. We just did some demonstrations in the Port of Gothenburg with Stena during the first ship-to-ship bunkering in Sweden, as well as for our ferry. So we're supporting this in a lot of different ways and we're also trying to understand their interest in low-carbon methanol and how that fits with potentially our investments in our sites as well as future projects. So this is a really interesting space. I'm sure we'll have a lot more to report on more vessels and more demand potential as that goes forward. Your other question is about coal boilers and kilns. You asked about DME. DME, we don't see demand growing there; that's sort of what I'll say is sort of a mature application not seeing investments in that space, but it's steady demand, above 4 million tons of demand per year with growth rates slowing. Coal boilers and kilns, we see that conversions continue to happen mainly in the smaller commercial applications for commercial heating and residential heating. So we're continuing to track that. We put a number on it, it's probably in a 4% to 5%, we're not seeing huge growth rates there. The other area that we're watching is demand for vehicle fuels. Kee Lee is promoting a number of different applications, M100 vehicles, heavy-duty trucks, as well as hybrid sedans. And so they have some quite optimistic marketing plans for especially heavy-duty trucks. So yes, so those are the applications we're monitoring and continuing to track.

Okay, thank you. And can you also just speak to kind of your philosophy or your view on what Methanex's strategy should be on green methanol? And also what you see as the current kind of state of the market? I think as far as to keep track, I think there's about 1.5 million tons of projects already announced, but I'm not sure if we're catching everything. So just curious about what you see in terms of what's in the pipeline and how you want to participate in that?

Yes. I think if you break those projects down, you'd see those are a lot of announcements that haven't reached full commercial or project approval. So I think the pace of those projects is something that we're watching. As it relates to Methanex, we're looking at a number of different areas when it relates to low carbon. First, the first and the easiest thing for us to do is renewable natural gas. So we're certified in North America in our Geismar plants and we're active in the renewable natural gas market where we buy renewable gas at a premium and create green methanol and support downstream customers. When it comes to investments, we're looking at the feasibility of carbon capture in the U.S., and that's based on the benefits and tax incentives under the Inflation Reduction Act, as well as sequestration availability in Louisiana. So we're looking at the feasibility of that and we're also looking at the feasibility of e-methanol, a small e-methanol investment in our New Zealand site and we think that that is something we could apply to multiple sites. These are very early, really in the feasibility stage understanding technology, understanding capital, and these things will take government support as well as customer demand and willingness to pay. So I think our strategy is to try to make sure we're positioning the company the right way as those things advance, and the conditions for investment improve.

Thanks. And just to clarify on the biogas route. Are you making the same profit per gallon using the biogas as you are on regular gas?

So I guess the answer is, yes. And I guess the answer would also be it would depend on each agreement we would get in. And as of right now, we're still in discussions on that.

Your next question comes from the line of Bernard Horn with Polaris Capital. Please go ahead.

Good morning. I have another question regarding the MTO market in China. You mentioned a new naphtha cracker being introduced. I'm curious if this might alter the competitive dynamics and whether it could become more cost competitive, impacting the demand for methanol in that market. Additionally, there seems to be a significant amount of new capacity being developed, including a large plant from BASF. Do you think they will have any methanol supply that could change the competitive landscape of methanol in that market?

Let me clarify what I meant regarding the MTO units. I am referring to the MTO units located at the same site as the refinery expansion. Currently, the MTO units are supplying products to downstream operations. They have recently developed a new refinery project on the same site, adjacent to both the naphtha cracker and new downstream operations. Once the entire site is fully operational, they will require both sources of feed. From an economic standpoint, MTO is currently more competitive than naphtha, especially considering that MTO is purchasing a significant amount of product from Iran at prices lower than the international rates, which enhances its attractiveness. Therefore, we anticipate the plant will commence operations. It’s a situation that is quite specific to the site, but it undeniably impacts demand since this MTO unit consumes over 2 million tons annually.

Okay, yes, thanks. That is very helpful. I was a little confused as to what you were saying about that.

Yes.

All right, thanks. And anything on the BASF plant and other big chemical expansions there, whether they might in some ways produce byproduct of methanol in anyway that would affect the competitive market for methanol in China?

I'm not sure about that, but what we are observing does not indicate expansions. We take that into account with all the added capacity, but there's nothing specific to address regarding that.

Your next question comes from the line of Joshua Spector with UBS. Please go ahead.

Hey guys, this is James Cannon on for Josh. Just looking at kind of where gas costs have come down to at this point in 2023. You're starting to hear some comments on potential reopening and not reopening, but improvement in Europe as things become more affordable and potentially seeing some rebuild in feedstock inventories of the downstream production. Can you comment on what you're seeing in that market versus what we're seeing through destocking in Q4?

So yes, so I guess when we talked about our fourth quarter, our fourth quarter we saw traditional chemical applications decline about 3% and a lot of that was driven by both Europe and Asia. Right now certainly, we think that the decrease in natural gas prices has supported producers and the manufacturing base in Europe. As of right now, we would say that it's likely got a little upside from where we were towards the end of the year, but we got to wait and see. I think our customer base is a little more optimistic than what they were three months ago. So, but still we got to wait and see and see how operating rates are impacted, but I'd say modest improvement in outlook there.

Okay. Thank you. And then just as a follow-up to that, with gas now below 250 in the U.S. Do you have any update on your kind of views on your hedging strategy with 2023 at 85% and how we should think about looking out to 2024 and beyond?

Sure. When we consider our North America natural gas exposure, particularly with Medicine Hat and Geismar, we have a strategy for active management. Our goal is to keep around 70% hedged each year. We approach this in two ways: through long-term fixed price contracts with suppliers and by using commodity hedging in financial markets. For 2023, we are 85% hedged and are close to our target of 70% for both 2024 and 2025, taking into account G3 at full production rates. We are confident about our medium-term position and will continue to engage actively in the market. The current spot price is advantageous for our unhedged exposure, which is a significant improvement compared to last year’s prices that reached $8-$9 per MMBtu. This is a positive factor for our cost structure in 2023.

Okay. Great. Thank you.

There are no further questions at this time. I will now turn the call back over to Mr. Rich Sumner.

Thank you for your questions and interest in our company. Looking forward, we're well positioned with our current asset portfolio and a strong balance sheet. Our G3 project is fully funded, progressing safely on time and on budget, and we expect to be in production in the fourth quarter of this year. We hope you will join us in April when we update you on our first quarter results. Thank you.

Ladies and gentlemen, that concludes today's conference. Thank you all for joining. You may now disconnect.