Sasol Ltd Q2 FY2022 Earnings Call

Good day, and welcome to our Financial Year 2022 Interim Results Call. Thank you for joining us today. I am accompanied by Paul Victor, our Chief Financial Officer, and members of my executive team. Our results for the period ending 31 December 2021 were published on our website earlier this morning. I will outline the key features. Sasol delivered a mixed set of results for the six months ended 31 December 2021, benefiting from a favorable macroeconomic environment and increased demand following the easing of COVID-19 lockdown restrictions globally. However, these benefits were partially offset by operational challenges faced at our South African operations, where coal quality and supply constraints resulted in lower fuels and chemicals production. We are focused on four key priorities across the business: safety, operational excellence, ESG, and shareholder value. We are saddened by the five workplace fatalities that occurred during the reporting period and have identified additional leadership focus areas, which are a high priority for us to strengthen our existing High Severity Incident program. We defined Sasol 2.0, reset our operating model, and achieved a strong ramp-up in our U.S. specialty chemicals. The lower production from our South African operations has been disappointing. In the short term, we are prioritizing the recovery of our South African operations. We remain committed to managing our cost competitiveness and ensuring our integrated value chain can achieve a cash breakeven level of between $30 and $35 per barrel. Regarding ESG, our climate change strategy is established, with confirmed medium- and long-term targets. We have outlined plans to accelerate the decarbonization of our business and are advancing several partnerships to achieve our goals. We continue to improve our balance sheet and refine our capital allocation framework. Our objective is to restore the strategy as soon as we can do so sustainably while completing the remaining asset divestments. In our energy business, external sales revenue was 47% higher in rand terms due to increased crude oil refining margins and demand. Mining productivity was 16% lower than the prior period due to safety incidents, higher-than-expected rainfall, and a slower-than-expected ramp-up of our integrated operations system. This, along with reduced coal feed, delayed shutdowns, and operational instabilities, resulted in lower production volumes at our Secunda operations. We have implemented comprehensive plans to address performance challenges and are increasing coal purchases to restore stockpiles to target levels. Additionally, we are strengthening the executive leadership team with the appointment of a former Sasol executive as the Executive Vice President of Mining effective 9 March 2022. This will help stabilize our mining business and progress our recovery plans. In Mozambique, gas production was 1% higher than planned. External sales revenue across the chemicals portfolio increased 21% in rand terms, although Chemicals Africa sales volumes were 15% lower than the prior period mainly due to lower production at the Secunda and Sasolburg sites. Sales volumes for our Specialty Chemicals divisions were approximately 60% higher than the previous period. We remain dedicated to our Sasol 2.0 transformation program, focusing on maintaining competitiveness, strong cash generation, and delivering attractive returns even in a low oil price environment. We achieved approximately ZAR1.8 billion in cash fixed cost savings and ZAR0.5 billion in gross improvement margins for this reporting period, and we are on track to meet our cash fixed cost target of ZAR3 billion for 2022. However, the gross margin is below the required run rate, primarily due to operational challenges affecting our South African value chains. Our capital expenditure will remain within the ZAR20 billion to ZAR25 billion range we set as our annual target, ensuring safety, environmental compliance, and asset integrity are not compromised. The current underperformance at our mining and Secunda operations is managed separately from the Sasol 2.0 program, and a business recovery intervention is in progress. Sasol 2.0 interim targets may need to be phased and reprioritized for higher value baseline recovery in 2022 and 2023, although the 2025 targets remain unchanged. At our Capital Markets Day in September 2021, we shared our plans for Future Sasol, and I am pleased to report progress in these areas. We are executing on a 600-megawatt renewable project with Air Liquide for Secunda operations and have completed the request for proposal process. We recently approved development funds for the first tranche of additional gas reforming capacity in Secunda. Our PSA project in Mozambique is on track, with gas offtake achieving financial close in December 2021. We are also making good progress on purchasing 40 to 60 petajoules of LNG, with negotiations underway to enable first gas by 2026. We are exploring green hydrogen coastal development opportunities and are leading the pre-feasibility study for the Boegoebaai green hydrogen project on the West Coast of South Africa. Sasol plans to produce the first commercial-scale green hydrogen in Sasolburg using repurposed electrolyzers by late 2023 and is evaluating over 10 opportunities for sustainable aviation fuel production with two project partnerships already established. In conclusion, despite our short-term challenges, our investment case shared at last year's Capital Markets Day remains strong. Future Sasol is grounded in the promise of new technology and strong customer relationships, rather than straying from our core. I will now turn it over to Paul to discuss our financial performance for the period in more detail.

Thank you, Fleetwood, and good day, ladies and gentlemen. Despite the operational challenges we faced, I'm very pleased to say that we still managed to convert a supportive macroeconomic environment into improved profitability. We achieved that with firm cost control, together with the gains from the Sasol 2.0 transformation program and ongoing capital and cash discipline. At the same time, we have a good early traction on the repositioning of the business for the transition to a lower carbon world. We believe that we have a strong foundation in place to deliver against the strategy that we announced at the Capital Markets Day last year. We reported an increase in adjusted EBITDA of 71% compared to the prior financial year. Our normalized real cash fixed cost increase of 2% compared to the prior year is mainly as a result of higher maintenance and labor costs. We still remain on track to meet our guidance for the full year of approximately ZAR58 billion to ZAR59 billion. Earnings were enhanced by the impact of remeasurement items, which include a profit on the disposal of our Canadian shale gas asset and the reversal of the impairment relating to chemicals workup and heavy alcohols value chain in South Africa. This was partly offset by unrealized losses on the translation of monetary asset liabilities as well as our hedging activities. Capital expenditure increased by 38% as a result of planned Secunda operation phased shutdowns in the current period as well as the planned U.S. ethylene cracker turnaround. Full year capital expenditure is still expected to be in line with the market guidance of ZAR20 billion to ZAR25 billion for the annum. Core headline earnings per share of ZAR22.52 per share was more than 100% higher compared to the previous period mainly as a result of the impact of the macros on our business. A critical part of establishing a strong foundation pillar is us managing our balance sheet very prudently. We've been very successful in transforming this in the past 18 months, with significant deleveraging results from asset divestments as well as improvements from our operating cash flows. Our asset divestment program is now near to a close with the remaining transactions in the final stages of being concluded, and we can share some details a little bit later on in terms of the progress that we make with those. Our gearing has also decreased to 59.1% compared to 61.5% as of the 30th of June 2021. And the net debt-to-EBITDA is now down to 1.3x with a net bank debt at $5.6 billion. Although the balance sheet is in a much stronger position, we still have some work to do and want to take our absolute debt level to below $4 billion while keeping the net debt-to-EBITDA levels to below 1.5x. We now have line of sight to achieve these metrics, and this will leave us well-positioned to ultimately deliver on our strategy and absorb future macroeconomic volatility. Again, just to re-emphasize that our dividend decision is based on a $5 billion net debt level. It is on that basis and particularly with substantial macro volatility still at play that the Board has decided not to declare an interim dividend at this stage. We will push hard to deliver the business results that fulfill our capital allocation principles to pay a dividend at our earliest convenient opportunity. In summary, our energy business benefited from the higher export coal prices, our gas sales prices, crude oil prices and higher refining margins, coupled with the increase in demand for products. This was partly offset by the slower ramp-up of Fulco at mining, higher coal purchases and additional cash fixed costs resulting from the Mozambique drilling campaign. In Chemicals, a combination of higher sales volumes in Eurasia and higher sales prices across all regions resulted in a strong performance for this segment despite lower volumes in Africa, resulting from the South African value chain operational challenges, which we experienced. It still makes much more economic sense to upgrade a molecule of coal to a high margin of fuels and chemical products rather than to turn down the product facility. Turning to the outlook for financial year 2022. We are focusing all our efforts on delivering to plan and meeting our market guidance provided. The business recovery plan for the South African operations will be prioritized to ensure that we restore the energy and chemical volumes as communicated. We will continue to prioritize the deleveraging of our balance sheet and to reduce the net debt levels, sustaining net debt-to-EBITDA of 1.5x and driving to net debt levels of below $5 billion by the end of financial year 2022. We continue to make good progress with our hedging of our foreign currency, crude oil and ethane exposures. This increases the certainty of future cash flows and mitigates downside risks to enable our Future Sasol strategy execution. We are reducing our hedge cover ratios for financial year '23 as our balance sheet starts to delever, and we can share more details on that. So I just want to say thank you very much for listening to us. And I will now ask Tiffany to open the floor for the question-and-answer session. Thank you very much.

Thank you very much, Paul. Good afternoon to everyone on the call. My name is Tiffany Sydow, and I will be facilitating the questions today. I appreciate the questions that have already been submitted. The first set of questions relates to our balance sheet, and I'll direct those to Paul. There are three questions from Giulietta Talevi at Financial Mail. I will address these all at once. The first question is whether the absolute level of debt Sasol holds is as significant as the level of gearing in understanding the hesitance to pay an interim dividend. Can you explain how your hedging functions and why it was unfavorable during this period? The third and final question is regarding your commitment to a breakeven of $30 to $35 a barrel. Are you currently meeting that target, and if not, what steps are required to achieve it? Additionally, how sustainable do you believe the oil price is?

Hi, Giulietta, it’s been a long time since we last spoke. I hope you're doing well. Thank you for your three questions. Last year at Capital Markets Day, we emphasized that both the gearing level and reducing our overall debt are critical for us. Our immediate goal is to reach a net debt level of 1.5x or below, which aligns with the reduced levels identified by our peers. Additionally, we want our absolute debt to drop below $5 billion, although I mentioned earlier that our ultimate aim is to bring it down to $4 billion. We believe that with a $55 oil price and a $4 billion debt level, our business can effectively carry out its strategy and remain strong even in lower oil price scenarios. It's important for us to focus on both metrics. While a 1.5x net debt-to-EBITDA ratio may be seen as efficient, a higher debt level during volatile times is not acceptable. We will prioritize achieving both goals, and reaching a 1.5x ratio and a debt level below $5 billion will prompt the Board to consider a dividend. The Board needs to ensure a dividend can be paid sustainably before making that decision. The decision not to declare an interim dividend was mainly due to our failure to lower the absolute debt level below $5 billion. We are currently finalizing two significant asset disposals, REMCO and CTRG. If these transactions are successful, we believe there is no reason our balance sheet cannot decrease below $5 billion given the current oil prices. Achieving a 1.5x ratio will also be a prerequisite for the Board to start considering the final dividend decision. We are optimistic about moving in that direction, and if the macro conditions remain stable, we expect the pace to be swift. Regarding your second question about hedging, it’s important to be cautious because while hedging may be out of the money now, our other products are performing well. We need to protect against downside risks, and we are confident that our hedging program, despite being out of the money, provides enough coverage to manage our balance sheet effectively if oil prices fall below an average of $60. Our hedging strategy aims to safeguard against unexpected events and support the balance sheet. As we reduce our debt, we will also lower our hedging cover ratio. Currently, we have hedged 90% of our Synfuels output for this year, and for the financial year '23, we plan to lower that ratio to about 50% as our balance sheet strengthens. Our dynamic mechanism helps us determine the optimal level for effective hedging. Regarding the $30 to $35 per barrel breakeven, we achieved it last year. This year, however, although our cost structure remains stable, our cash breakeven has risen above $35 due to lower volumes. As we return to historical levels, we believe that will help us in our Sasol 2.0 initiatives to reach the $30 to $35 range. We have no doubt that we can achieve this goal moving forward. The oil price is highly volatile, with various geopolitical risks impacting it, so I won't speculate on where it will go. However, our forecast indicates a potential $70 to $80 oil price environment in the upcoming months. As for next year, we’ll have to wait and see. Our business is well-equipped to operate in a $55 to $60 oil price environment, which is what truly matters.

Thank you, Paul. Next two questions also on the balance sheet. From Stella Cridge with Barclays, you discussed today your intention to pay down short-term debt. Could you talk about any plans to address maturities in 2024? And the second question is from Dennis Gregory from Fosun Eurasia. Could you please touch on operating agencies for potential ratings upgrades, which are very likely to take account of lower leverage? Do you see any long-term chance to become an investment-grade rated company?

Thank you very much. I think it's two very important questions. First and foremostly, Stella, we always want to enhance our objective to smooth our maturity curve over the next 10 years to ensure that we do remove this Manhattan kind of a maturity curve that we currently have. Over the past four or five years, we've actually been quite successful in starting to spread the debt. In our analyst book, you can actually see what the efforts of those are. We still have two significant maturities for financial year '23 and '24, which we need to address. We will go to the capital markets to raise further debt in an effort to rebalance our debt maturity. Also through the cash flows that we generate, hopefully over the next 6 to 12 months, we can successfully pay down more debt, but we don't believe that we've got an immediate risk in terms of our maturity profile. But we need to go to the capital markets to raise more debt in the next 12 months. And then we will look at RCF as we start to pay that down in our bank term facility, what portion of our debt balance needs to be refinanced through a RCF facility in the future. We will consider in which shape or form we want to refinance that. But no immediate risk; we're actually in a good position. The second question, Dennis, is quite important as our metrics start to dip below and some well below the IG metrics that the rating agencies have. Of course, rating agencies look at the sustainability of these metrics going forward. And secondly, they also have other metrics by looking at the sector in which we operate, what the sources of cash flows that we generate in terms of the sovereign. And those are other aspects they take into account to finally assess our rating. We're quite hopeful that our business is recovering quite well, and our balance sheet is getting off risk. But it doesn't take away from the fact that the sector risk, as well as the sovereign risk, needs to be addressed in the sectors and jurisdictions that we operate. We will be engaging with the rating agencies over the next couple of weeks and months. Hopefully, they can favorably consider the progress that we've made. But at this point in time, we still await evaluation and feedback on our organization. But we're quite hopeful that there will definitely be some positive moves in this direction based on our balance sheet metrics significantly improving.

Thank you, Paul. The next topic of questions focuses on our operational performance. I will address two questions at a time since some are straightforward. The first question is from an anonymous source at Financial Mail, asking if Sasol would consider splitting its business into local and international operations to enhance shareholder value. Is that a possibility for you? The second question is from Adrian Hammond at SBG Securities, requesting an update on the coal quality issue and the implementation of Fulco. Are stock levels restored to assist with blending? Additionally, there is another question regarding stockpile levels from Herbert Kharivhe at Investec. Can you provide an update on the current coal stock levels, and are you close to the target of 1 million to 1.1 million?

Thank you, Tiffany, and to the questions asked. The interesting thing is we will always challenge ourselves to think about the right structure for the business. I believe every organization should have an open mind on various issues. But at this stage, if I reflect on where we are, I think all our focus needs to be on delivering our objectives like Sasol 2.0, which will create value right across the business, leveraging experience and capabilities right across the group. To split the business without having regard to this value that we're creating must provide clarity. I'm conscious that speculation on this topic is really unhelpful for our employees, customers, and other stakeholders. I hope that gives you context on how we think about it. It’s a question that we will always have to deal with, but timing now is not conducive for us. When I reflect on coal quality and the implementation of Fulco, there are definitely a number of areas that we have to consider in our approach. What have we done with respect to coal quality over the last period since we spoke in August? We are pursuing several levers to address coal quality. First is to create a better understanding of our coal reserve and the impact on the ideal coal blend for our Secunda operations. The other lever we are pursuing is to procure better quality coal than we can mine ourselves. The requirement on coal purchases, the quality of that, we've been quite focused on ensuring better quality. As of yesterday, our coal stockpile was at 1.1 million tons, just over that actually. We've guided that we would reach the range of 1 million to 1.1 million tons by the end of February, so we are tracking the upper range of that. We are still confident that the ramp-up in supplies from external purchases, as well as improved productivity in our own mines, put us well on track to get to the stockpile level of 1.5 million tons by June without impacting our operations. Regarding Fulco, we've guided the market that we will be between the 940 and the 1,044 tons per continuous mine per shift. We have seen quite a nice recovery towards the upper end of that guidance in February. I am seeing definitely some weeks performing better than 1,044 tons. The levers are coming together. The stockpile is increasing. Our flexibility has also increased. We are focusing on better coal quality as a blend into our operations.

Thank you, Fleetwood. Another question also just closing of the mining team from Herbert Kharivhe at Investec. Are you experiencing geological challenges in all six mines? If not, which mines should we expect higher capital expenditure for due to a new development plan?

Very good question, Herbert. When we look at the mines, not all mines are equal. We know that certain mines on the Synfuels side have higher-quality coal. We are seeing more coal quality challenges in the area of Bosjesspruit compared to the others. But I think the whole redeployment and the mining plan is still within the ranks of our long-term plan. So the optimization of that, I don't foresee some drastic changes in capital deployment to change the mining plan. We will always look at our best reserves and coal sources and put that into the mix for our Secunda quality needs. We will be looking at the coal that we buy, such as Isibonelo coal from Thungela Resources, which is also a very good quality coal.

Thank you, Fleetwood. Turning over to our gas segment. There is a question on the current drilling program from Adrian Hammond. What is the status of the Mozambique infill drilling program? How many of the infill wells have been drilled? Will it be sufficient to avoid gas declining from 2025? Another question also related to our gas business: gas external turnover increased by 28% compared to FY '21 half two. While national maximum gas prices increased four times. Did you guys increase the discounts to clients? We noted the complaints by some key customers regarding the current pricing methodology. This comes from Herbert Kharivhe at Investec.

Thank you so much, Adrian, and Herbert. I’m going to ask Priscillah to weigh in on those two questions. What I can share is that we have commenced our infill well drilling campaign last year and that we are seeing positive results. It is probably too early to give you an update whether that would help us extend the plateau. We are going through a rigorous testing and modeling exercise so we can validate the results we are achieving from the field. Regarding your external turnover, I'll defer that to Priscillah to give you a flavor.

Thanks, Adrian. In terms of the Mozambique infill drill status, we had a total of 11 approved activities associated with the campaign. We have already started and completed four of those activities. Some activities included work on over wells. In terms of the new wells, we have started and completed one infill well, which we are currently analyzing the data to see if some of the positive outcomes of that drilling will be replicated. As for gas external turnover, we are in the process of engaging with our customers regarding the NERSA promulgation. Sasol's view stands that the process has been rigorous. Substantial increases in gas prices that we're seeing will have an impact in our FY 2023.

Thank you, Priscillah. Thank you. Next question pertains to our refinery. Can you achieve the new fuel specification in time in 2023 at Synfuels at market? What are your options? Several refineries have closed in the country. You have been assessing NERSA's future for a number of years now. Do you have a conclusion from this? At this point in time, we have not concluded the option for Natref with our partner, Total. We would go to market probably in August with a very clear picture on how that plays out. Now, to the question of the promulgated regulatory framework to have clean fuels ready by September '23, the whole refinery operator system in South Africa clearly indicated to the government that, that is not going to be feasible or practically attainable. We've indicated that it will have to be regulated to a later date, and we hope that government will come back and give a better timeline that is feasible for the majority of refineries still operating. With respect to our own situation in Secunda, as you know, we are busy with over ZAR5 billion investment to attain clean fuel standards by 2025. The Natref decision isn't finalized, and we will inform you of the outcome by August.

Thank you, Fleetwood. And could you provide more color on the lower volumes guided for the U.S. Chemicals business?

Happy to do that. Thanks, Mark, and letting me in for the questions. As we guided recently, we've updated our guidance outlook for the U.S. volumes, primarily on the basis of operating rates for the base chemicals assets in the U.S. related to our outages as well as some reduced production from the JV assets. As we look at the outlook for the second half of the year, there is a large planned outage for the linear low-density unit at the JV. However, as both Paul and Fleetwood indicated, our specialty volumes continue to ramp up nicely, so we will update the market as we go through our next PPM in terms of our outlook on the remaining asset ramp-ups. Thanks.

Thank you, Brad. Moving on to the progress on our asset divestment program, I can direct these two questions to Paul, please. What are your expected proceeds from planned disposals? And can you give us a range? And the second question, any more asset disposals planned?

Thank you for those two questions. The two big assets, as I've mentioned, REMCO and CTRG, that's up for sale. The range there is between $500 million and $700 million. We also have a smaller asset that's being finalized, and that's around about at least $100 million. If all three are successful, we can be as high up as $700 million maybe a little bit higher than that in terms of proceeds. Completing those can get our debt balance from $5.6 billion at this point in time to below $5 billion. The teams have made good progress on the REMCO side. We’re quite hopeful in the coming weeks we will be getting there. The smaller asset, we are very much making significant progress on closing that deal over the next couple of weeks. So good progress in terms of that.

Thank you, Paul. The next set of questions is around our Sasol 2.0 program. The first question from Adrian Hammond at SBG. If cash fixed cost targets for FY '22 are unpacked, why is your gross margins cut? And the second one also from Adrian, how is it that Sasol has repaid its CapEx outlook to ZAR20 billion to ZAR25 billion until 2025, whereas the industry is increasing CapEx due to higher inflation?

Adrian, the first question is a bit disingenuous on the cash fees cost side because it is a little bit different, cash fixed costs and variable costs, as you know. Let me reiterate what I said during year-end when we provided guidance. Our targets for financial year '22 are ZAR58 billion to ZAR59 billion for the year, and we are sticking to those. The reason why the gross margin is off track is due to instabilities that we have, lagging because our priority is to fix the baseline. Cash use costs are still on track, but we are lagging on the gross margin as a result of these instabilities. Regarding capital, we're sticking to the ZAR20 billion to ZAR25 billion. The ZAR20 billion to ZAR25 billion was a real target for us up until 2025. However, we recognize inflation as a challenge currently and globally. But we anticipate we can attain and manage inflation for this financial year. We will update the estimate for the next year in August, and the inflation considerations will then be deeply considered during that process. But we’re still sticking to our 2025 target.

Paul, is there anything else that you would like to add?

Good question on the LNG. Currently, we are in negotiations towards term sheets for bringing natural gas into our facilities. It would not be prudent to share those numbers at this point in time as they can jeopardize our position. However, we have done work to understand the breakeven levels for our facilities and at what prices we need to negotiate to support the economic viability of our business. In fuels markets, contracts and dispensations are different. In some instances, prices cannot be passed on. In the chemicals market, there are mechanisms that allow you to pass-through costs.

Thank you, Paul. Moving over to our strategic questions, quite a few questions around LNG imports. If I can direct that to you, please explain your financial contracts for LNG. How does the cost of LNG compete with your Mozambique gas? Who are your partners? What CapEx will be spent on a regasification terminal?

Thank you. I'm going to start off, and then ask Priscillah to weigh in. So if we go back to the question Adrian on what our partners are now? So first of all, we are in negotiations with partners that we cannot disclose at this time. The concept we’re exploring in Mozambique is that the partner would be responsible for bringing in a floating regasification option and ensuring that there’s a connection from the regasification terminal to our REMCO connection. We would then get the supply at the REMCO supply point. We would like to conclude our term sheet negotiations in this year to bring in the first gas in 2026. Regarding the pricing volatility for LNG, also remember, LNG is an energy source and has linkages to references in oil and other price markers. We need to take those into account while ensuring we have a realistic blend, reflecting on linkages necessary to protect margin in product versus feedstock prices.

Just on the last point, in terms of the temp sheet that we're currently negotiating, which is going to be crude price-linked, the range that we are negotiating at is really competitive and in line with the expectations we shared before. We continue to look at spot prices and challenges, but it’s quite clear for us in the long term, especially post-2026, the long-term contracts that will bring into South Africa are better competitive rates.

Thank you, Priscillah. The final question comes from Gerhard Engelbrecht at ASBA. Are you now at an optimum headcount level? Or do you expect more people to leave the business? What is the quantum of severance payment included in half one that will not recur in the future?

Yes. Thank you, Gerhard. I think it's important to look through various lenses on headcount level. When we embarked on Sasol 2.0, we benchmarked our current operations. If we have a strategy to further our green hydrogen ambitions in South Africa or our Sasol ecoFT business, that won't be part of the current baseline, and headcount will be added to address those new opportunities. Where we are looking at headcount, that is enabled by technology and digital. We believe that will play out over the next year or two but within the natural turnover levels. To your question about severance payment, an amount of around ZAR200 million was included in half one.

I would just like to add, we are well on track. Over the period, we had low turnover in certain areas. This year, we have roughly 700 employees that exited in the first half, which is quite a number.

Thank you. I think our call is going to a close as we can't see any more questions coming through the platform. Thank you to all that have submitted your questions and for your time to dial into this afternoon's call. We appreciate your time. I will close the call.