National Steel Co Q4 FY2020 Earnings Call

Good afternoon, ladies and gentlemen, and thank you for holding. At this time, we would like to welcome everyone to CSN's Conference Call to present the results for the year 2020. Today, we have with us the company's executive officers. We would like to inform you that this event is being recorded and all participants will be in a listen-only mode during the company presentation. And following this, we will go onto the question-and-answer session when further instructions will be given. We have a simultaneous webcast that may be accessed through CSN's Investor Relations website, ircsn.com.br where the presentation is also available. The replay will be available for one week. You can slip through the slide at your own convenience.

Good afternoon to all of you and thank you for participating in the fourth quarter and full year 2020 results call for CSN. This has been a special year for CSN where we obtained record results in several dimensions. We began the year with concern because of the pandemic, sanitary problems, and financial issues, but we're ending it in a very positive situation. We have the health of our associates, and the impact of the pandemic has enabled us to attain positive results. We have had very few serious cases in the company, thanks to the stringent protocols. Financially, we prepared for a war, which are words that Benjamin tends to use, a war that did not materialize and that was turned into a bonanza through stringent cost management, expense investment, and working capital; we were able to gain twice. We were rewarded with a quick recovery of volume and prices. We achieved BRL 11 billion EBITDA, and this year BRL 4.8 billion with margins of approximately 80%. Furthermore, EBITDA was transformed into cash. We had record cash generation from operational improvements and working capital, and we were able to reduce debt. In this quarter, the debt reduction was BRL 5 billion, and in general, it reached BRL 10 billion. This is before the third highlighted point, which is the IPO of CSN Mineração, marking the conclusion of a very long period in which we tried to achieve sustainable leverage. Now this process is over as we are now moving towards a 1.0 net debt to EBITDA ratio, but we are at a very sustainable debt level at present. These are the highlights for the period.

Good afternoon to all of you. It is a pleasure to be able to speak about social and environmental management. These are the pillars that we work on, and it is very gratifying to not only discuss very expressive financial and operational results but also other results. We began to deliver these operational results because we have a very good foundation. We had a reduction of 19% in the frequency rate of reportable accidents. Of course, we prioritize our lives and our safety. We have made important changes in communication. You know that we do much more than we truly communicate, and we base ourselves on good communication and transparency. We like to offer information on our side. Here you will see some of the indicators that we have. We preserve and protect 68,000 hectares. We manage our operations regarding water usage. In 2020, we became signatories of the UN Global Pact, and we are already working with all of the UN alignment and protocols. We have become fully independent from dams in terms of mining. We have decharacterized the first dam and we invested more than BRL 420 million in environmental and social investments. In the CSN Foundation, we have a sustainability board that reports directly to the CEO and collaborates with various directors in different areas. This director will set forth goals, speak about diversity, and work with emissions, water, and other material issues in the company. We have enhanced our rating and we remain part of the FTSE4Good group, and we ended the quarter and the year with all of these achievements. The outlook for 2021 is that it will be even better. We aim to become a model and a benchmark for all other companies in all of these segments in which we are active.

The first question is from Caio Ribeiro from Credit Suisse. You may proceed.

Good afternoon to all of you and thank you for taking my question. The first question is about sustainability and the margins that you delivered in the steel business, regarding what the evolution of this margin will be in the first quarter and the price transfers that you have for this quarter. What will happen with your margins? Secondly, regarding dividends, you have a payout of 25% of net revenues until you are able to conclude your deleveraging. Presently your rate is at 2.2 times. With the conclusion of the IPO, this should drop even further. What will be the ideal timing to review your dividend policy and begin to distribute your cash surplus to shareholders? What would be an ideal level of indebtedness that would allow you to generate this cash surplus for the company?

Hello, Caio. This is Martinez. Regarding the 25% margin we had in the fourth quarter, we'd like to clarify what is happening in this first quarter. We have a price carryover that is around 25%. The price carryover in the fourth quarter was 19%, and in the first quarter, it will be 25%. The current world situation is very favorable. It is quite difficult to import in Brazil. The US market and the Asian markets are working domestically with very few imports. Additionally, you need to consider that to produce one ton of steel, you require 1.6 tons of iron ore and 0.6 tons of coal. In January 2020, iron ore was 94, and now it's 73, while coal was 144 and now stands at 149. The exchange rate, which was 4.06, is now 5.50. When you consider these factors in your calculations, we would need to increase our prices by 105% in the first quarter. In addition to the price carryover, we're likely to implement another price increase in March focused on cold and hot products. There's also a part of the assembly products that will be included in the first quarter. In the second half, due to CSN contracts, which differ from local competitors, we signed quarterly contracts and will have a carryover for assembly plants of about 20%. This is a given. This is the situation for prices and margins for the first quarter.

This is Benjamin speaking, Caio. The question you posed is very important in terms of price adjustments. It may seem surprising to have price increases, but what Martinez mentioned about the 25% carryover and the outlook of new price increases for March is all due to the current market conditions. Right now, if you go to the market, you will find slabs costing $750, but we have none available for immediate delivery. Slabs are likely to only be available for delivery in May, arriving in Brazil in June or July. The increase in raw material costs is maintaining prices at a high and continuous level, which we consider to be a reference slab. This is now happening for almost three consecutive quarters. It is quite unlikely that we'll make price increases in the first and second quarters, aside from this carryover. For example, the average price for iron ore in the first quarter of 2021 is around $170, and the market will close for March at $169—thus, the quarter will be above $170—and in the second quarter, prices are expected to rise even further. Therefore, the price adjustments are mandated by the cost updates necessary to remain competitive and stay within market margins. Brazil adheres to international price standards, and I see a necessity for a new price increase in March and likely another one in the second quarter—again, due to the reality of the international market.

Thank you. Thank you very much, Benjamin, Marcelo, and Martinez. Very clear answers.

Our next question comes from Daniel Sasson from Itaú BBA. You may proceed, Mr. Sasson.

Good afternoon to all of you. Thank you for taking my question. My first question is a follow-up on the previous question. Regarding prices, Martinez, that increase you will announce for March—could you comment on the parity of imports in Mexico, where you work with imported products? Could this level of premium be even higher than the historical 5% or 10% due to the difficulty of importing products? My second question refers to the cement business. We saw improvements in prices, volumes, and margins, but there is still room for a greater increase in margins and volumes this year as well. What potential do you believe this business group can attain, considering price adjustments and capacity utilization, once everything has normalized?

Hello, Daniel. I will address the first question about prices. This is important, and to add to what was said by Benjamin, the price increase is due to a recomposition of costs. We consider four points: the supply/demand equation, which is very favorable; all markets are witnessing growth, including automobile, agriculture, civil construction, and packaging. Coal was at $110, and now we buy it at $140 or $150. Additionally, CSN purchases pet coke and pays between $480 and $500 for it at a premium price. We also note that iron ore is in the range of $170, $175. In terms of imports, to elaborate on what is happening, the Chinese blast furnaces are operating at a utilization level of 84%, and there is a reduction of about 13% in the import tax rebate in China, which also benefits the world market. This will push them to stop importing and promote internal growth. In the retail automobile sector, growth is still strong. Regarding prices, I am considering a BQ in China, which although not available for sale is at $640, and $650. If you calculate the premium, it's around 12% to 15%. In galvanized materials, which represent a larger share, it stands at 15% or 16%. With regard to price elasticity in Brazil, we have seen premiums exceeding 20% with a good demand/supply equation. We need to adjust prices in Brazil. While the market remains favorable and the import equation is in our favor, we aim to achieve the highest profitability possible. This is the challenge we face in the steel business, always focusing on full production, domestic market, added value, and fragmentation. We don’t want to rely solely on one area. In the US, Europe, and Portugal, we will operate as local players. That's our plan for 2021.

Daniel, this is Edvaldo. Let me give you a panorama of our thinking. We ended the fourth quarter with a run rate of around BRL 4 million. Naturally, in the steel business, we are facing cost pressures. The imported pet coke has seen a significant increase in the second half, which will impact this year. This means that in cement as well, we will have to continue to recover our prices as we are still operating with prices below historical levels. We see room to effectively increase prices, and we also anticipate room for volume growth. We manage one million tons and have the potential to grow 15% to 18% this year and in the coming years, assuming demand allows us to. Essentially, we are operating with very limited costs and very high efficiency in terms of SG&A, and we expect to achieve EBITDAs exceeding BRL 500 million despite the price pressures we face, which we have been mitigating through our internal efforts.

Daniel, I would like to complement what Edvaldo shared. Historical cement prices in the southern region, starting from a series dating back to 2011 to the present, indicate an average of BRL 320 per ton. At present, we are 22% below that level. Of course, the exchange rate works against us. In Brazil, we have the lowest cost cement in the world; in the US, it's at $110; in Europe, 120; and in Brazil, we are 22% away from returning to historical price levels. In the North and Northeast regions, this figure stands at 24% to 28%. We believe that as the market moves towards improved supply-demand relations and cost relationships, we will be able to recover historical levels this year.

Our next question is from Leonardo Correa from BTG Pactual. You may proceed, sir.

Can you hear me?

It’s a bit muffled, but we can hear you.

I do apologize for that. The first question is for Marcelo. In your introduction, you made it very clear that the market has always requested a lot from you. Of course, the scenario was favorable for delivering a very good EBITDA in 2021. Now, the cost of debt still continues to be very high if we consider comparables. Could you speak about your expectations going forward regarding the type of debt reduction you foresee in the future? Additionally, could you discuss your outlook for M&As? I believe you are working strategically, and cement seems to be opening new avenues. However, I would like to understand what your priorities are concerning steel, which is generating solid results with significant improvement. What is your priority list—what do you aim to begin doing for us to understand your strategic thinking? Finally, to clarify, you mentioned a carryover of 25% in the first quarter, with an already announced price increase. To avoid confusion, are you stating that net revenues in the domestic market are set to increase by 25%?

Let’s begin with your last question, Leo. This is exactly what we are discussing to review. In the fourth quarter of 2019, the average price was 319, then we went to 357, the fourth quarter, it was 226. Based on this 226, we will apply the 25% increase. The average price will increase by 25% this quarter. Of course, we will have a cost increase, with the slab going from BRL 1200 per ton to BRL 900 due to the raw material increase I mentioned. Now this increase will offset the costs and go beyond it. Regarding our debt profile, we certainly have much to gain. Our indebtedness is increasingly concentrated. In the capital market, there is a shift toward reducing debt with banks. We began this process 3.5 to 4 years ago, and the bonds we plan to issue will have coupons of about 8%. We will soon enter the market for these coupons at less than 5% for longer terms. We're referring to reducing the cost by about 300 basis points on BRL 20 billion, which translates to BRL 600 million a year in savings, which is quite significant. Concerning the priorities in the cement and steel sectors, the need for capital in mining was very specific, mainly because of its size it could be used to deleverage CSN. Moreover, it had seen production volumes grow threefold over several years and required capital to expand. Now cement seems to be next due to growth plans and favorable market conditions matched with organic projects that hold liquidity and little competition in confirmed markets.

Okay. Thank you very much.

Our next question comes from Thiago Lofiego from Bradesco BBI. You may proceed, sir.

Thank you. Good afternoon. Martinez, could you comment on the dynamics of demand in both the short and long term? We have been thinking about inventory levels, and we expected that in the fourth quarter these would reduce. What is your order book for the coming months? What will happen going forward? My second question concerns long steel, specifically if there is room for price increases. According to our assessment, there seems to be that room, but of course, the supply dynamics differ.

Thiago, simply to review this, in 2020 the Brazilian market for flat steel stood at about 12,000 tons, which is impressive considering the pandemic. CSN faced poor market figures, but we could have seen worse due to the pandemic; as a result, we achieved a 2% growth. In contrast, long steel saw a 5% market growth compared to 2020 owing to increased construction activity. The decrease in interest rates has strengthened the market more than usual. Regarding restocking in the market, for 2021, we project—well, the IABr is projecting a growth of 5.3%. Meanwhile, CSN anticipates growth from 12% to 15% in 2021. The IABr forecasts a 6% growth for 2021 while CSN is limited to about 230,000 to 240,000 tons a year and we're currently running at full capacity. In terms of sectors, to understand current market dynamics, industry in general predicts a growth of 6%; the automotive sector is expecting an approximate 15% increase in sales and a 25% increase in production; other sectors, including trucks and agricultural machinery, are likely to enjoy double-digit growth. The market has demonstrated that, as confirmed by recent reports from INDA, inventories have not yet seen any recovery. There is a shortage of raw material inventory and intermediate raw material. This shortage extends to vehicles, where, if you try to buy one today, there is a lead time. So restocking hasn’t even begun; we expect it to extend beyond the first quarter. In terms of steel, we anticipate a slowdown in the first quarter, but this will level out in the second quarter. What is even more positive is that all markets are on a growth trajectory, as Edvaldo indicated regarding cement. We are beginning a new real estate cycle in Brazil, and we believe this market will continue to grow year after year by about 6%. In long steel, we experienced a 15% increase in both January and February. CSN holds the highest market price for long steel due to our limited capacity. Additionally, long steel production largely depends on iron ore pricing. Overall, we’ve been working on recomposing costs while also factoring in that scrap prices are actually surpassing the increase in iron ore prices, which shapes our pricing dynamics in the steel market.

Very good. Martinez, if you would allow me to ask another question in terms of premiums. Today, my accounts show that the premium is above 10%. Do you believe that a higher premium will lead to higher prices? In January, you had planned exports of about 14% of demand, but if I'm not mistaken...

I don't foresee any concerns in this regard. There's a distortion present in January's figures. Some slabs were returned from the United States; they remained in the free zone, and we've repatriated them to service the local market. There’s a CSN quantity that will convert to local material. Regarding the premium, we are working with the Chinese BQ price range of around $640 to $650, but these products are unavailable for immediate purchase. As Benjamin mentioned, you won't be able to source any products before May. The premium is currently around 12% to 15%. Considering the exchange rate, premium levels, supply-demand situation, and controlled imports (save for galvanized materials), I don't anticipate challenges when it comes to maintaining premiums that are higher than historical averages. We also won't permit an influx of imported products into Brazil. We believe that import penetration should be capped at 10% and not reach 14%. We learned from our experiences in 2010 when it reached 30%, and we aim to protect our market with a favorable equation.

Very good. Thank you, Martinez.

Our next question in English comes from Carlos De Alba from Morgan Stanley.

Thank you very much. Just a question regarding the liability management program. Marcelo, has this been completed? What you highlighted in the second part of that chart for the first quarter—is that done, or is it something you're still working on? Can you provide us with a bit more detail on which banks are involved in this? When should we expect these initiatives to finalize? As the company continues to do a good job significantly and quickly reducing leverage, I wonder why the company isn't adjusting the dividend policy to align more closely with cash flow generation. The company manages working capital quite well and also has a lower CapEx ratio compared to peers. We've observed global peers, particularly Vale, moving towards a dividend policy more closely aligned with cash flow generation. Why wouldn't CSN consider that for 2021 or in 2022 once your balance sheet is considerably stronger and you reach your target? If not, does the company have plans for expansion, whether into other businesses or expanding within the current core business?

Thank you, Carlos, for your questions. The conditions we presented in our simulation are things we currently have in hand. These discussions are ongoing with the banks, and you are aware of the banks we are engaging with. We've approached three or four key banks based on our work from 2017, and we are now working toward a new stage. We have this in hand and will implement this within the next 45 days. This also applies to our activities in the capital market, where we have been very active and aim to capitalize on favorable circumstances for companies with our profile. We seek the optimal timing as we anticipate positive movements in our ratings in the coming week. Regarding our dividend policy, as I mentioned earlier, once we reach a 1.0 net debt to EBITDA and BRL 15 billion in debt, our dividend distribution will align with our cash flow generation. This is something CSN will consider, but we will pursue this without leveraging beyond the 2022 horizon. As Benjamin noted, we will grow sustainably, utilizing equity and our individual business segments. I hope this clarifies your concerns.

Yeah. That's clear, Marcelo. Just returning to the cement business, maybe it was in the English call, but I didn't quite get a good grasp on whether or not the company is contemplating an IPO for the cement business. If so, what timeline do you anticipate?

The IPO isn't an end goal itself. The IPO is a means to enable us to grow—healthy and sustainably. Growth projects are progressing, encompassing both organic and consolidation strategies. The pace of these projects will dictate the potential for an IPO. It could happen this year, as the conditions are favorable; however, we can't control this. We are prepared; the company has been legally established, and we have conducted the necessary work for this. We could have an offering in the short term, but the pace of growth will guide the IPO's timing.

Great. Thank you very much.

With this, we would like to end the question-and-answer session. We will return the floor to Mr. Marcelo Cunha Ribeiro, the CFO and IR manager, for his closing remarks. You may proceed, sir.

I would like to thank all of you for being with us today on what is a day of celebration for CSN. We successfully listed CSN Mineração and have very special results to celebrate. Thank you all for your presence. Have a good afternoon.

Thank you. The CSN conference call ends here. You may now disconnect. Have a good day.