Companhia De Saneamento Basico Do Estado De Sao Paulo-Sabesp Q3 FY2021 Earnings Call

Good morning, everyone. Welcome to SABESP’s video conference to discuss the earnings for the third quarter. My name is Mario Sampaio, and I am the Head of Capital Markets and Investor Relations at SABESP. We are joined today by Dr. Benedito Braga, Chairman of SABESP; Mr. Osvaldo Garcia, Financial Economic Director and Investor Relations; Mr. Marcelo Miyagui, Head of Accounting; and Marcel Sanches, Head of Regulation. Before we begin, I want to share some information. This video conference is being recorded and the presentation will be available for download on our website, along with the press release. We will accept questions only in writing through the chat feature. The conference will last for an hour and a half, with 45 minutes dedicated to answering questions from analysts, followed by time for questions from journalists. I also want to clarify that any statements made during this conference regarding the company's business prospects, projections, and operational and financial goals reflect the beliefs and assumptions of the company’s Board and are based on information currently available. Discussions about the future are not guarantees of performance and involve risks and uncertainties that pertain to future events, dependent on circumstances that may or may not happen. Investors should be aware that general economic conditions, industry conditions, and various operational factors could impact the company's future and could lead to results that differ significantly from those discussed. Now, I will hand it over to Dr. Braga. Dr. Braga, please proceed with the opening remarks.

Thank you very much, Mario. Good morning, everyone. It’s a pleasure to share good news with you on this rainy morning. We had very positive financial results, but I will let our CFO, Dr. Osvaldo Garcia, discuss this further. I want to touch on a few topics of interest. Due to the good news, we are experiencing rainy weather. Regarding water safety, we are currently facing an extreme drought in the Southeast of Brazil, which has affected the electricity sector. Dr. Osvaldo will explain the rising energy costs related to this drought. We received special authorization from the water authorities to draw 40 million cubic meters from our Jaguari reservoir on the Paraíba do Sul River, which will enhance our water safety. Additionally, the abstraction works from the Itapanhaú River to the Biritiba-Mirim reservoir are progressing well, allowing for an average removal of 2.5 million cubic liters monthly. We expect to inaugurate this supplementary system in the first half of next year. In terms of rainfall, October saw slightly above-average levels, but November has started with little rainfall. However, we remain hopeful for better rainfall in the second half of November to stabilize our reservoir levels without needing extraordinary measures for water supply in the São Paulo metropolitan area. In the interior, the water supply situation in the City of Franca, which was rationed in August and September, is now normalized, and 375 other cities are also doing well regarding water supply. Another significant update is the implementation of a new platform that will introduce a single tariff structure across all our cities, to be applied in 2022. This means the minimum tariff will be eliminated, and there will be a fixed fee for water connection along with charges for water consumption. Customers will only pay for what they use, with a fixed fee in the new structure. The platform will also enhance customer interactions, allowing better payment options through various methods. We are currently implementing this system and addressing some initial challenges, including issues with fake bills affecting our contact center. The new system improves efficiency and reduces delinquency by utilizing taxpayer and ID numbers. Our corporate team has done an excellent job in enhancing our client relationships and monitoring our meters, marking an important modernization for our company. Regarding the new sanitation alliance, the decree regulating Article 16B will strengthen our financial capacity towards achieving 99% coverage in water and sanitation by 2033. We are optimistic about meeting these goals as our largest consumers, including major cities, won’t require CapEx investments. Unfortunately, the federal government was delayed in implementing the law and publishing the decree, but we are working quickly to ensure compliance by December 31st with the new sanitation law. Lastly, I want to highlight that SABESP is the only company in the Southern Hemisphere to have an agreement with UNFCCC, collaborating in the global effort to enhance water system resilience. We actively participated in COP 26, emphasizing the importance of adaptation to climate change, especially given the ongoing drought in Brazil. SABESP serves as a global example among sanitation companies for its preparedness. We are encouraged that the final report from COP 26 placed greater emphasis on adaptation, and the next COP will also focus on this issue and its implications for less developed countries. The company is advancing its ESG initiatives, becoming increasingly strong in this direction. Now, I believe you’re eager to hear about our positive financial results, so I will hand it over to our CFO, Dr. Osvaldo.

Good morning, Chairman Braga, and good morning to everyone. I appreciate your participation in this video conference to review the earnings for Q3 2021. On Slide 3, we see a total volume build growth of 3.7% compared to Q3 2020, taking into account the volumes from Mauá, which has been operating in retail this quarter. Excluding certain collections as well as social and residential categories in shantytowns, the volume built increased from 957.3 million to 992.7 million cubic meters. The growth was even stronger in sewer services at 4.1%, while water service volumes rose by 3.4%. The most notable increases were in non-residential categories, where tariffs are higher, showing growth rates of 15.7% for public clients, 7% for commercial clients, and 6.6% for industrial clients. In the residential segment, which represents the largest share of our total volume, growth was 3.2%. With consumption recovering in non-residential categories, we observed a rise in average tariffs that positively impacted our revenue. Moving to the next slide, we see financial figures. Revenue from sanitation services grew by 17.7% during the period, rising from R$3.6 billion in Q3 2020 to R$4.3 billion in Q3 2021, primarily due to tariff increases on client bills: a 3.4% increase in August 2020 and a 7% increase since May of this year. This revenue growth is reflected when comparing this quarter with the same period last year. Additionally, we experienced a volume build increase of 3.7%, which is essential to understanding the significant growth in our total sanitation services revenue, alongside the operation of retail water distribution in Mauá, now generating R$24.7 million more than the same period last year. Our net revenue increased from R$4.4 billion to R$5.2 billion, driven by higher volume builds and the mentioned price increases, along with construction revenue contributing R$132.7 million to this growth. Costs, administrative, and commercial expenses, including construction costs, rose by 13.8%, from R$3.5 billion in Q3 2020 to R$3.9 billion in Q3 2021. Excluding construction costs, the increase was 14.3% or R$347.5 million. Adjusted EBITDA reached R$275.7 million above the Q3 2020 EBITDA, totaling R$1.8 billion for Q3 2021, reflecting a positive variance of 18.2%. The EBITDA margin, not accounting for construction costs, improved slightly from 44% to 44.4%. Net income for Q3 2021 was 11.1% higher than the profit in Q3 2020, which stood at R$421.6 million. It's worth emphasizing that this growth is attributable to robust revenue increases, driven by recent price adjustments and a recovery in the non-residential segments, leading to improved average tariffs. Despite pressures from rising costs and expenses, influenced by higher inflation, interest rates, and currency fluctuations, we now turn to the slide detailing costs and expenses. After excluding construction costs, expenses saw a 14.3% increase or R$347.5 million. It is essential to consider that comparisons to last year may be distorted due to disruptions caused by social distancing measures. Personnel expenses experienced a slight rise of 1.8%, attributed to a 7.75% salary increase in May and previously low medical expenditures. This variation, which is below inflation rates, resulted from a reduction of about 1,000 employees. The pandemic's impact in Q3 2020 is reflected in varying degrees across material and service expenses. A significant portion of our general expenses increased by R$103 million or 45.9%, primarily due to legal fees amounting to R$53.3 million and higher accruals for payments to Environmental and Infrastructure Sanitation Municipal Funds, driven by increased revenue and more cities being served, totaling R$32.9 million. Our electricity expenses also rose notably, with average ACR tariffs increasing by 30.6%. The increase was somewhat mitigated by our transition to the free market, where prices rose less sharply. Overall electricity expenses climbed by 20.6%, from R$311 million to R$375 million in this period. Unlike revenue, which reflects increased volume and average tariffs compared to last year, estimated losses from credit and bad debt rose by R$43.5 million, a 57.9% increase. Following the introduction of a new commercial system, we are now equipped with modern tools to address overdue balances. Moving to the financial performance slide, we start with the profit from Q3 2020 at R$421.6 million, illustrating the results trend for the current period. Net operational revenue increased by R$715.4 million, driven by tariff hikes alongside higher volume and average tariffs as previously mentioned. However, costs and expenses, including construction, rose by R$477.3 million. Other revenues from operations also saw a positive change of R$2.8 million. Unfortunately, the financial result showed a negative shift of R$190 million due to an 8.7% and 8.3% devaluation of the Brazilian currency against the U.S. dollar and yen, respectively, marking a greater devaluation than observed in Q3 2020. Additionally, we face impacts from heightened interest rates and the IPCA index on loans and financing. Income tax and social contributions reflected a negative variance of R$3.9 million due to the increase in net operational revenue by R$582.7 million, which excludes construction-related revenue and expenses, impacting overall costs by R$347.5 million as well as exchange loss expenses of R$141.5 million. Consequently, net profit in Q3 2021 was R$468.6 million. Although this figure surpasses last year's results, it underscores ongoing challenges from the crisis early in 2020. We have seen revenue recovery driven not only by tariff increases but also through broader economic improvements in industrial and service sectors. However, delinquency rates have not followed this upward trend, and strong inflation is visible in input costs. These are our insights. Now, we will proceed to the Q&A session. Mario, the floor is yours.

Everybody listening here, I’d just been muted. Hello? Okay. I'm taking over here. We would like to begin our Q&A session. I will check with Dr. Braga. The question is from . He asked many questions concerning tariffs and price increases, indicators, period, and when we will have the tariff structure? Dr. Braga please guide us.

The new tariff structure will be implemented in April next year and will take effect in May. However, I notice that there are more detailed questions regarding revenue and related topics. I will ask Osvaldo and Marcel to address those questions.

Marcel, I will try to answer. Please supplement. Regarding the revenue, the amount is R$17.5 billion. If SABESP has an expectation for revenue this year, I can say that it is slightly below the required revenue, but we will have the final number at the end of December. We believe it will be a bit lower, but not significantly lower. Regarding the evaluation period for inflation, our P0 was February 2021, and since the agency will address this in March, we will see the index that will be used for inflation adjustments during this period. This will be discussed in April and applied starting in May. As for tariffs, the Chairman has already mentioned that the new system will be implemented in May 2022. Would you like to add anything, Marcel?

Well, always reminding you that this topic of privatization is up to our Controller. It's not up to us to discuss this point. I would like to say, concerning the progress, it is what is public, our Economic Minister has said, everyone knows that the privatization committee of the government is analyzing this topic for the companies’ tariff, and intends to hire the IFC, to prepare a study. This is the information that is public and everyone knows. I have no additional information apart from what we read in the press.

Well, we are awaiting more questions for the time being we had . A question from . The question is, please give us an update about the investments in the new Pinheiros River. So please talk about the schedule, amount invested, measurement of results and expectations involving conclusion.

It is a great pleasure to answer this question. In October, we connected 428,000 users out of the 530,000 planned for the new Pinheiros River project. We are optimistic about finalizing all 533,000 connections by the end of 2023, in addition to the quality recovery units for the streams that feed the Pinheiros River. We have 5 stations with total investments of R$1.7 billion. Currently, we have 87% of the physical work ready. However, in terms of financing, we are close to 30% to 40% of payments, which are made based on the results related to connections and water quality in the streams. Overall, the project is progressing very well, showing success even during the pandemic, and we are exceeding our initial forecasts. As mentioned, we aimed for 85% completion in October, and now we are at 87% ready.

Okay, we’ve a question from Daniel Travitzky. And the question is, please comment on expansion plans for operations, participation in auctions for sanitation and expansion to other states?

The company is closely engaged with new business initiatives and expansion efforts. Dr. Osvaldo in the finance department has a superintendent dedicated to exploring new business opportunities. We are giving this area our full attention as we strive to achieve our 2033 program goals. As I mentioned earlier, we are closely monitoring this situation. We have engaged external consultants for mergers and acquisitions to assist us. We are pursuing opportunities in Uberlândia, which is near Franca where we already operate. Dr. Osvaldo may have additional insights to share regarding new business developments.

Mr. Chairman supplementing this information, it's basically what you mentioned. Our focus is in serving the 325 contracts, improving our economic and financial capacity and CapEx. But of course, after January 1st, when we have the confirmation of the financial capacity in the other companies, we expect some action, especially in new businesses. We're focused in looking at the opportunities. First, with priority to our state São Paulo and then other businesses participating in auctions together or together with other companies.

We have a question from Carolina Carneiro from Credit Suisse. The question is, on the implementation of the new tool for collection that Dr. Braga mentioned. Specifically, she wants to know, how long will it take to implement this new tool? And expectations to decrease PDD, which will happen in Q4?

The tool is already operational. We are enhancing our collection methods with more modern techniques that we expect to roll out in the beginning of the year, specifically within the next two or three months. At that time, we will provide additional updates about this, including the use of WhatsApp and BICs for payments, as well as more effective strategies to reduce delinquency. The tool is functional now, but these upgrades will take place over the next three to five months.

Right now, we don't have any new questions. I understand that the system identifies whether these are analysts. Dr. Braga, can we open the floor to journalists?

Yes.

So, let's wait a little. Let's see if we receive questions. In order to clarify point, so we will wait a little.

One point involving logistics. The only way to receive questions is through the Q&A or do we have other ways to receive questions from analysts and journalists?

Only through Q&A. Questions only through the Q&A. I didn't see Caroline’s questions. Caroline is an analyst. She had difficulty to ask her question. So, she is an analyst. She has contact with the company. She sent it through WhatsApp and I read the question. Okay. We have more questions. Dr. Braga, Dr. Osvaldo, the question is from . How are the recent changes having an impact on the company? How is the issue of costs? How are the costs?

Very well. This question is for Dr. Osvaldo.

In the current macroeconomic environment, we have seen an increase in interest rates, which will affect our costs due to our loans and debts. Regarding another important issue, we are very concerned about the rising inflation, which has been putting pressure on our operational costs, including materials and electricity. This is not only driven by inflation but also by drought and water scarcity in reservoirs. We are carefully monitoring this situation, which is why I highlighted this point. However, our costs remain controlled and within our projected goals. While there is pressure, we are actively working to ensure that it does not have a significant impact on us.

Okay. I believe we have another question. I believe it was already answered. , he asks, whether SABESP intends to participate in sanitation auctions? This was answered. Maybe we can have more comments.

Myself and Osvaldo responded. We are vigilant and exploring opportunities, but only if it doesn't impact our existing contracts. With the new regulations in place, we face significant challenges. While we have identified potential new business avenues, we also have critical objectives tied to our current contracts, which is why our primary focus remains on achieving those goals. However, as Osvaldo pointed out, we are on the lookout for opportunities that could lead to significant financial benefits, which could help accelerate universalization efforts. In São Paulo, we will evaluate these possibilities. Regarding the new Pinheiros River project, I want to clarify that I did not say we would complete it by the end of 2023; that was a misunderstanding. Our target for a clean Pinheiros River is 2022. Alright, let's move on to the next question.

Who asked about the revenue. He is seeking details and clarifications. Regarding the required revenue, is it R$17.5 billion for 2021, and is this based on prices from February 2021? Is this net revenue in both cases?

The answer is, yes.

Okay. Waiting for more questions. Remind you that those who are listening through the translation in English are invited to ask questions. You may ask questions in English too. So please feel free to ask questions in English. SABESP is innovating. In the past, we used two of our periods to have the report in Portuguese and then in English. Now, with the Zoom technology, today, we’re doing at the same time, the call and also the virtual meeting in English and in Portuguese. So we’re more efficient now. Yes and this cut the cost of our conference calls. Well, let’s see if we receive more questions. Yes, we have another question. . Could you detail the strategy? How the company is financed, new loans, potential buybacks?

Osvaldo please. This would be better answered by you because you are responsible directly, so please.

Thank you. I will answer it the following way. The company has an intense process of refinancing in loans. We have tried to diversify the sources of loans apart from the debentures and with incentives we have sought multilaterals from the private markets. We had an operation at the end of the year, almost R$1 billion with BD investee in reals, not in foreign currency. Actually, this is the trend. The company guided by the Board and the council is trying to reduce as possible the exchange rate exposure. So our strategy is to diversify and anticipate the loans. Now, concerning potential buybacks, we will see this when opportunities arise. But certainly, the company does manage its debt and it can in the future maybe pay off the loans that are very expensive in relation to what the market is offering. The debts, we have almost all of them CDI, allow us to pay off the loans in advance but always after a period after the issuance. I believe that in general terms, this is it, reminding you that the company has access to public multilaterals. Recently, we received approval from COFIEX due for the next step for financing of $200 million that it’ll be in yens with JICA, the public bank that does international developments from Japan and this is also in our pipeline. So we have many loans from the public bid and World Bank. These may later be converted be reals. So we have a robust situation to guarantee the liquidity of the company and also guarantee the CapEx of the company to reach the goals and deliver the clean Pinheiros River on the date that Dr. Braga mentioned.

It seems that asked the question. And . I did not receive this question. I will read the question. I apologize. Journalist from . Her question details about my initial comments. SABESP does not wait to have rationing. What is the scenario for 2022? What levels you expect to have during the droughts?

During these years, we undertook three key initiatives: enhancing the infrastructure, reducing water losses, and promoting conscious consumption among consumers. We successfully achieved these objectives, which is why we can currently state that there are no forecasts for water rationing. In November, we anticipate increased rainfall, continuing into December and January, which are typically rainy months. There are differing climate forecasts from various research institutions, with some predicting La Nina while others do not foresee it. La Nina would result in a drier summer, while the absence of it would lead to a normal summer, introducing some uncertainties. However, our expectations are based on average occurrences. As it stands, we are not anticipating any difficulties. Even in the event of a dry summer, we have strategies to handle such challenges due to our experience with technical reserves, which we have already implemented. For example, the Cantareira reservoir holds technical reserves, similar to the Guarapiranga reservoir, the third-largest water producer in the metropolitan region of São Paulo. Therefore, we currently do not foresee the need for water rationing. In contrast, when we faced a more challenging situation in Franca, rationing was necessary to ensure people could fill their home water reservoirs for essential needs. However, we do not view this as a requirement for São Paulo at this time.

Okay. Now, I received the question. Let’s continue. We have no further questions. Dr. Braga, let’s wait another three minutes to receive questions. And do we conclude, or do we wait more, Dr. Braga, Osvaldo?

So let’s wait another three, four minutes. And if we don't have the questions we can close the conference call. We have 106 participants in this meeting, and certainly those who had questions have already asked their questions. Okay. Well, Mario, I believe we have no more questions.

Yes, we have a question. is asking. Will you announce dividends?

Dr. Osvaldo.

Further dividends anticipated are the minimum and this will occur when we finalize our year-end report. We will determine the company's profits and we do not plan to alter the 25%, which is the minimum dividend. We have a robust investment plan in line with new legislation and we aim to truly expand these services across the State of São Paulo.

Very well. Dr. Braga and Osvaldo, we would like to close. So I will pass the floor to Dr. Braga for his final comments.

I want to express my gratitude to all participants, including our Directors and our CFO. We are committed to addressing our challenges, particularly in achieving our goals under the new law. Our focus will remain on reducing costs and enhancing efficiency. This is our intention for the near future, and I assure everyone that we will strive to achieve better results, both financially and in improving the quality of life for the communities we serve through our water and sanitation services. Thank you.