National Steel Co Q2 FY2023 Earnings Call

Good morning, ladies and gentlemen, and thank you for holding. At this time, we would like to welcome you to CSN's conference call to present results for the second quarter 2023. 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. Ensuing this, there will be a question-and-answer section where further instructions will be provided. We have simultaneous webcasting that may be accessed through CSN's Investor Relations website at ri.csn.com.br, where the presentation is also available. The replay service will be available soon after closing. Now once again, you may flip through the slides at your own convenience. Before proceeding, we would like to state that some of the forward-looking statements herein are mere expectations or trends and are based on the current assumptions of the Company management. There could be differences materially from those expressed herein as they do not constitute projections. In fact, actual results, performances, or events may differ materially from those expressed or implied by forward-looking statements as a result of several factors, such as general and economic conditions in Brazil and other countries; interest rates and exchange rate levels; future rescheduling or prepayment of debt denominated in foreign currencies; protectionist measures in the U.S., Brazil, and other countries; changes in laws and regulations; and general competitive factors at a global, regional, or domestic basis. I will now turn the floor over to Mr. Marcelo Cunha Ribeiro, CFO and IRO Executive Officer, who will present the operating and financial highlights for the period.

Good morning. Thank you, and thank you for attending one more results call for CSN. We will begin with the highlights of the period. We would like to underscore the strong commercial activity in all segments, highlighting the all-time records even in markets that are decelerating, with an all-time record in volumes sold in mining. All of this was achieved despite operational difficulties. Secondly, we would like to highlight the strong cash flow, even with the result below our historical averages. Thanks to the excellent performance and the use of our working capital, we were able to sell our finished inventories, boosting cash flow, and this will be sustainable. We have a sound cash flow that will reflect in the coming quarters. We would also like to emphasize the Company’s effort in BRL3.5 billion in prepayments for energy and mining, which should soften the one-time increase in leverage because of the payment of dividends, leading us to a leverage of 2.57x. Starting now, we will see a gradual reduction closer to our guideline. We show you that we reached an EBITDA of BRL2.2 billion in the quarter, a drop of approximately 29% sequentially compared to the first quarter due to lower price realization this quarter, alongside a moment in the steel mill where the costs continue to be high due to the operational situation and cement prices below those at the beginning of the year. As a result, we reached a level lower than we had achieved in the last four quarters. This confluence of negative factors is a one-time event, and from now onward, we will return to our average levels of previous quarters. We continue to focus on cash generation. First of all, we will speak about CapEx. We're very close to BRL1 billion, in line with our annual guidance, which is somewhat above BRL4 billion. It is natural to have this slowdown in the steel mill due to project advancements such as repairs of coke batteries and mining projects. In the coming quarters, we will see similar figures or higher than this BRL1 million to comply with our guidance. Working capital experienced a significant reduction, especially in inventories, which is commercially positive. Of course, we're trying to be creative with slabs of difficult application and sales of finished products to offset the reduction in volume in the steel area. As a result, we will continue to hold lower levels of inventory supported by lower raw material prices. You should see this again in the coming quarters, aiding our cash flow. Generated cash flow was almost BRL750 million, partially returning a significant use of cash in the first quarter, similar to what occurred last year. At the beginning of the year, we had a higher application of working capital, and in the following quarters, we returned this cash. It is somewhat low, but it is relevant cash flow. In the second half of the year, with improved operating profitability, cash generation should accelerate further. The cash flow, although positive, was not enough to prevent an increase in debt due to the dividend payment of BRL2.7 billion. This led us to a leverage for the second quarter of 2.78x. However, post-transactions concluded after the close of July, we already have decreased to a leverage of 2.57x. As I mentioned before, we're considering five different operations totaling BRL3.5 billion, with very good commercial conditions not only in mining but also in energy, bringing liquidity in various conditions, which aligns with the volumes we had last year. Since 2018, we've sought deleveraging with very good results, helping us to reach this level of 2.57x. We had a peak this year, and from now onward, we will be closer to our guidance, which is 2x. Our liquidity ended at BRL2.5 billion at the end of July. Given the transactions, we will be much closer to our informal goal, which is BRL15 billion. Looking forward in the second half of the year, we will always be closer to that figure. This gives us comfort for necessary investments. With short-term negotiations, we have good coverage to support us in the coming years. We continue to work on our amortizations in July. We concluded another issuance of debentures for a term of 15 years to lengthen terms at very efficient costs, and regarding our debt with the banks, we have repaid installments and are again in discussions for the lengthening of this debt. We have this ongoing quest for very healthy debt that aligns with future loans and financing, which will sequentially reduce leverage. This is what we should expect in the upcoming quarters. Now we will comment on each of the businesses, beginning with steel. First, let's discuss volume. This quarter wasn't particularly strong in terms of demand due to mix trends in the segment. Despite this, we saw over 10% growth in domestic sales. The reason we weren't higher is a new strategy of sourcing products from Germany to Brazil, which increases transit time. We have 50,000 tons eliminated here to sell in the second half of the year. Had we sold them in Europe, we could have sold more volumes; however, Brazilian profitability is expected to be higher. With average volumes and prices in the second half of the year, it will be interesting to maintain these prices despite pressure on imported products. Results were better than in the first quarter, but we had a negative impact due to increased production costs, leading to a margin drop from 9% to 3%. This margin should return to historical levels. On page 11, we illustrate limitations in production over the last two quarters, with slab production at 30,000 tons, far from our average range of 950,000 to 1 million. Production costs have also affected unit margins, dropping by 34%. Despite this, historically, results at $20 or $30 per ton are above our historical averages and should be around 200 if prices were where expected. We anticipate a normalization in volumes in the coming quarters. Regarding mining, we achieved absolute records in production, dispatchment, and sales this quarter. Operationally and commercially, it was a solid quarter, although lower prices affected our results. Our sales in the quotational period bore the impact of this variation, marking a nearly 30% drop in price realization. As such, we see a drop in EBITDA margin from 48% to 30%, from BRL2 billion to BRL1.1 billion. Separating previous effects illustrates that in reality, it was more a comparison of BRL1.7 billion to BRL1.3 billion and clarifies that the considerable volume increase had a net positive effect, offset by a drop in iron ore prices. Our EBITDA levels would be over BRL1.5 billion compared to the BRL1.1 billion we reported this quarter. Finally, with cement, there's been quite a significant ramp-up in our volumes year-on-year, increasing from 1.3 million to 3.3 million, almost a threefold increase. Of course, this isn't the right comparison as we need to consider last year's values; however, we still have a 12% annual growth and a 9% sequential increase. In a market that has essentially leveled off, we are very confident of an acceleration driven by our strategy to maximize the capacity of existing plants and enhance distribution, achieving this quite successfully. Revenues have not grown equally alongside volume, with only a 2% increase due to negative impacts on price. This refers to market conditions where heightened demand has spurred price increases. Margins are stable at around 20%, and we are optimistic about better synergy materialization post-merger, returning us to historic levels of approximately 30%. We believe there will be heightened synergies already in place, which may not yet be obvious under current conditions. This concludes my presentation regarding the business. Now let's transition to ESG highlights. I give the floor to Helena.

Good morning, everybody. Here we are once again to speak about the highlights of the quarter. As you can see in this first quarter, we are working independently in terms of ESG. We are showing you our qualitative and quantitative indicators and our performance in each of these areas. Once again, these grants are performance in ESG greater transparency. In this first quarter, of course, we have a stability in mining. We continue to evolve in our operational performance. In 2022, we had the lowest accident rate in our history, and we ended the year 2023 with results that are even better than in 2022, having reduced accident rates compared to 2022. Greenhouse gas emissions are already down 40%, and we have incorporated everything that refers to CSN cement, reflecting an 8% reduction compared to 2022. We have enhanced operational efficiencies regarding water consumption and made advancements in terms of social diversity. Particularly, when it comes to women's representation, we have reached 47% in the CSN Group compared to 2020. Finally, we saw an evolution in main global ESG ratings. This quarter, we also progressed in our MSCI rating from B to BB. We have been listed on the FTSE4Good Index and have moved from 2.5 to 3.4 in 2023, largely attributed to our sustainability efforts. Being a listed company, this is incredibly important. All of these actions were based on stringent criteria of nearly 300 indicators, providing a solid reference for rating the most significant companies. Thank you very much, and that is it.

Well, thank you, Helena. Now, we will move on to the questions. Before this, I would like to give the floor to Benjamin Steinbruch for his remarks.

Good morning, everybody, and thank you for participating in the presentation of results for CSN. I would quickly like to summarize my assessment of where we stand at present, looking primarily at the efforts deployed in the past in the steel area. As part of what we had already presented regarding production difficulties, we began the year with some challenges during the first half. However, we have balanced production and are commencing the second half with more stability and a view towards recovery, thanks to all the measures adopted. Importantly, we stabilized our processes, setting the foundation for recovery and growth in production going forward. Consequently, this will lead to reduced costs not only due to enhancements in production productivity overall but also due to the drop in raw material costs, which will positively affect all the segments in which we operate starting in the second half of the year. This drop will create a compelling combination of increased production while reducing cost. Sales, in reality, have never been an issue; we faced a surplus and excess of orders but experienced delays due to production interruptions. We were able to mitigate this by sourcing outside products, such as hot slabs. In the second half, we aim for normalcy with improved production, lowered costs, increased productivity, and enhanced margins. Regarding mining, the scenario is considerably different. We have had notably good production, with results exceeding expectations. This includes enhancements in port performance and sales of lower-grade iron products, resulting in increased shipments to meet what we had forecasted. We maintain hope that China will renew its efforts towards stimulating its economy, as the global community heavily relies on this. We are optimistic that this will transpire swiftly but in a sustainable manner, thanks to a combination of measures meant to rekindle economic growth. We also actively work to improve costs and achieve productivity gains, which we have successfully implemented since the first quarter. Thus, we anticipate improved pricing stability moving forward. While our situation has indeed been challenging, we expect to see returns to normal margins as we enhance productivity and operational efficiency. Our cement division has also been a point of focus. Following our acquisition of Lafarge Holcim, we have aimed to operate at full capacity and are nearing that goal. Over the semester, we've produced 3.4 million tons, with aspirations to reach 3.6 million tons soon. Cost reduction efforts have been fruitful, particularly in eliminating primary costs associated with cement production. We plan to maintain this trajectory, leveraging declining raw material prices for enhanced performance. We believe that the second half of the year will reflect significant improvements seen from our initial second quarter interventions, confirming guidance that we set forth at the beginning of the year. Our cash generation efforts remain strong, traditionally peaking in the latter half of the year. Looking forward, we aim to surpass our targets set forth for net debt EBITDA ratios of 1.95x this year. We remain committed to solidifying our ESG initiatives and driving our technology forward, attempting to position ourselves as industry leaders in these arenas. This overview encapsulates our position and intent, and I'm happy to proceed with questions now.

The first question comes from Caio Greiner from BTG Pactual.

Good morning to everybody, and we have two questions. A question for Martinez. If you could share with us the general panorama of the steel market in Brazil, I think that we're still suffering from problems. There is a high import parity; we're below that. There has been a drop in prices in the last few weeks. So what is your outlook because of these variables? If you could share these with us your forecast for demand for steel this year, that would be very helpful. The second question for our short-term discussion from Benjamin, I would like to hear somewhat more about your strategic plan for the long run. We see that the capital market has become increasingly active over the last few weeks. Does this mean you're going to return to the CSN plants for the long term? You had mentioned becoming a holding with several subsidiaries. Perhaps this is relevant because leverage is above your goal. Can we begin to think about those plans you had for IPOs in cement, energy, or even steel or a primary injection to aid in your growth in the market? Or are you waiting for a greater deleveraging of the Company to 1.95x or perhaps below 1.95? If you could share your long-term strategy so that we can better foresee this evolution, it would be appreciated. Additionally, any other plans or strategies for the coming months that could help you with leverage would be great.

Good morning, Caio. I will expand a bit to provide you with a general understanding of the current dynamics in the import markets and beyond. I have good news emerging from China. Today, particularly, we received a CRU report, starting with an important figure for BQ. This is a fresh piece of information, indicating an increase of $30 in the price of BQ going from 45 to 563, 564. This is a significant development. I have communicated with our team in Hong Kong and our traders, and there are indeed positive trends developing. Production for the first half of the year in China was satisfactory; however, they are planning to restrict production in the second half to address pollution concerns. This is one of the significant factors contributing to the broader market dynamics. Additionally, margins across most Chinese companies, both public and private, are currently negative, which is a well-documented fact that cannot be overlooked. They are poised to announce a package focusing on the commodities market, which indicates that interest rates will likely be reduced, primarily aiming to stimulate the construction and automotive sectors. This strategic move should correspondingly aid us in Brazil with exports anticipated to revert back towards pre-pandemic levels. Collectively, these developments lend themselves to a more balanced international market moving forward. We anticipate that the scenario in China will lead to increased prices, and this has already begun to materialize as noted in the recent CRU report. When considering the broader context of Brazil, I will elaborate further. In the United States, domestic manufacturers are performing well, driving employment and production to record levels, with no significant issues arising in the industry. The price of BQ remains robust, even amidst slight drops. This manifests as a strong market connection between the U.S. and Mexico, creating a virtually single-country market perception. In Europe, the consolidated economy is exhibiting stability, but energy concerns amid geopolitical pressures—specifically related to Germany—are causing uncertainties. Measures are being discussed to address increased imports and protective tariffs along similar lines to those in the U.S. Therefore, Brazil is facing a unique situation regarding imports, which creates competitive imbalances that we must navigate carefully. Our projections indicate that imports might exceed 20% this year, not due to weak domestic demand; the market is more resilient than prior years. The challenge we face is dealing with the competitive asymmetry presented by these imports. CSN is particularly well positioned in coated materials, and we also have news regarding interest rates. A recent unexpected reduction of 0.5% appears to be beneficial for consumer goods, the construction sector, including automotive, showing increased sales of 27%. Such measures have indeed fostered sales growth, although with future consequences. We expect this positive trajectory to progress, leading to a more stable demand level within distribution, which reflects positively on steel sales forecasts moving forward. Import pressures remain a constant challenge, but there is optimism surrounding pricing stability and anticipated production improvements in the latter half of the year, with our margins expected to align more favorably. We anticipate a return to more robust volumes in the third quarter, with a careful approach to margin management. We remain confident about meeting our target for the remainder of the year.

Caio, you raised a question for Benjamin, do you require any follow-up after what Martinez has shared?

No, that was very good.

Very well, Caio. Regarding your question. Nothing changes based on what we have communicated and our commitment to the market. We have established several assumptions and fundamental priorities: first, ESG and technology; secondly, deleveraging; third, maintaining a sound capital structure; fourth, fine-tuning operations to achieve adequate operating margins; and fifth, identifying growth opportunities organically and through acquisitions. This framework guides our decision-making process and our overall strategy. As a reminder, we brought in substantial dividends last year amounting to BRL3 billion. Our goal has been to align our actions within this strategic framework, which includes maintaining total capital at BRL15 billion, with careful consideration of our operational positions. We are still focused on generating cash flow, recovering operational margins, and streamlining costs, remaining unwavering in our pursuit of achieving the targeted leverage of 1.95x. As stakeholders seeking the best for our company, we aim to balance our growth with these objectives. Furthermore, we hope to explore opportunities that may arise, aligning ourselves with strategic ventures that contribute to strengthening our existing business structure.

Good afternoon to all of you. My question is perhaps focused on Benjamin. Could you comment on any changes in your structure due to one of your major domestic competitors undergoing a leadership transition? How do you foresee this affecting the market, particularly regarding your plans with Usiminas? Does this shift imply any changes in the strategic landscape? My second question for Martinez pertains to the synergies from your integration with Lafarge Holcim. Considering margins continue to hold stable at 20%, could you share insights into your expectations for the second half of the year concerning potential improvements in costs and pricing?

To start with the synergies, Daniel, we've detailed over BRL500 million in synergies during our Investor Day presentation. We are confident that we will successfully unlock those synergies due to our commercial strategies, volume increases, and efficiency in both inbound and outbound logistics. We've effectively improved our cost structures in production and raw material sourcing, which will collectively build on our momentum. We’re also seeing significant decreases in pet coke prices, plummeting by over 25% in just a six-month span, granting us remarkable cash flow efficiencies—our target will be to drop from near BRL200 per ton at the year's start to approximately BRL160 by year-end. With effective volume growth anticipated, we’re targeting margins to enhance from the current 20% to levels closer to our historical averages of around 30%. That’s the extent of our expectations for the cement sector moving forward. In cement, a responsible growth strategy has fueled our drive: the integration follows a robust portfolio expansion while maintaining value without destructive competition. This upward spurt has placed CSN at the forefront, as we embrace new market penetration tactics while broadening our operational scope. We expect to attain maximum synergy benefits within approximately one to two months.

Regarding Usiminas, we haven’t observed changes internally. Our confidence remains unchanged; we foresee the groundwork laid during corporate governance now materializing due to leadership changes. We continue our path unaffected by these internal shifts. Our stance remains consistent as we've identified operational pathways to drive success even as we observe industry dynamics. We remain vigilant and hopeful that this transition will yield positive results for our competitors, ultimately leading to a growth trajectory that benefits the market.

Good morning or good afternoon. Very quick questions for Martinez. First, what is the current status of your contracts? Are you primarily working with semi-annual contracts due to price variability? Secondly, regarding costs, you mentioned a reduction for steel in the latter part of the year. Can you provide specifics?

Thiago, how are you? In terms of contracts, we are witnessing shifts as competitors either negotiate semi-annually or continue with quarterly negotiations. Our presence in the automotive sector has led us to focus more on spare parts, where we engage in spot pricing for two to three-month windows. In terms of assembly plants, we aligned prices for the last semester, accommodating minor industrial discounts previously communicated during our last call. This situation holds steady, and in the fourth quarter, I foresee refined adjustments based on market behavior. However, no impact is expected in the third quarter in terms of pricing revisions. Pressure exists regarding imports, but vigilance remains needed to maintain pricing stabilization while promoting competitive growth. Although our margins face challenges, there is room for stability as the market adjusts to eventual requirements—especially in China, which faces similar price pressures. As our costs drop this quarter, a low double-digit decrease can be expected through enhanced productivity.

Good afternoon, everybody. First, I would like to return to the previous discussion on the Brazilian steel market. Martinez has provided substantial insights regarding imported products. Could you elaborate on the effects of the anticipated reactivation of the blast furnace in September, particularly as it coincides with what is typically a weaker industrial period? Additionally, regarding your energy operations, are there still plans to partner specifically for the CEEE division? If so, what might the timing of such an initiative look like?

Regarding Usiminas, the return of the blast furnace isn't anticipated to profoundly alter the situation. Their offsetting of production capacity with slab purchases will continue, with no direct impact on overall output. As for energy, we are satisfied with CEEE's evolution and results that have exceeded initial expectations post-acquisition. Our strategic decision aims at maximizing value from that 50% of energy that we can't utilize, exploring further project opportunities. We have undertaken discussions, aligning with energy marketing experts to best manage our energy strategies—a decision will likely be made in the coming months as we progress with this initiative.

So the question I have is just a clarification. I’d like to confirm regarding the recent increase in leverage. Your previous comments suggested this was primarily due to one-off dividend payments totaling BRL2.7 billion, but I want to clarify if you plan to reduce or halt dividends moving forward, as failing to do so might indicate a more permanent change. How does the Company plan to mitigate leverage without relying on elevated commodity prices? More succinctly put, could you outline additional measures to significantly enhance volumes, reduce costs, or decrease working capital?

Yes, those were extraordinary expenses mainly attributable to the dividend payment of BRL2.7 billion. Last year's dividends were closer to BRL1 billion per semester. Therefore, our plan aims to revert to previous levels and save the BRL3.4 billion annually, which translates to BRL5.4 billion over the years—this showcases the extraordinary nature of what occurred recently. We aim to enhance cash flow to reduce leverage. Future projects, IPO initiatives, potential partnerships, and cash generation enhancements will catalyze our transition back to targeted levels, aiming for reductions before this year concludes. We're looking at decreased dividends aligned with enhanced results, boosting cash generation alongside new initiatives to achieve the 1.95x goal.

Thank you. And one final question: So could you please repeat the revised dividend target? Did I hear correctly that you were aiming for annual dividends around BRL1 billion to BRL1.1 billion—are these figures semi-annual?

Yes, you heard correctly. We are reverting to historical levels of dividends around that figure, which represent half-year values, not quarterly.

My question is about the prepayment points. Could you specify the percentage of iron ore volume that has been committed to this type of contract and the maximum volumes anticipated? Secondly, can you outline other strategies to facilitate deleveraging? Having mentioned a potential cement IPO and energy partnerships, do you have any additional initiatives being explored?

Regarding prepayments, it's essential to clarify that while we are dealing with significant financial volumes in iron ore exports, the percentage of committed future tons has grown leaner. Moving forward, we expect the commitment for the upcoming year to be about 6.6 million tons, constituting roughly 40% of our target. We won’t seek to increase this; instead, we plan to amortize as they mature, maintaining a balanced approach in upcoming years. Furthermore, we’re actively exploring possible partnerships and considering an IPO for cement, with upcoming figures projected similarly to BRL3 billion. These robust strategic initiatives are well-aligned with our deleveraging targets and will instigate tangible impacts in the near term. I would simply like to thank all of you for your attendance in our call, and we hope to see you in the call for the third quarter. Have a good afternoon.

Thank you. The CSN earnings conference has come to an end. You can now disconnect and have a good day.