Celanese Corp - Series A (CE) — Q3 2017 Earnings Call Transcript

Thank you, Denise. Welcome to the Celanese Corporation Third Quarter 2017 earnings conference call. My name is Surabhi Varshney and with me today are Mark Rohr, Chairman, and Chief Executive Officer; Chris Jensen, Chief Financial Officer; and Scott Sutton, Chief Operating Officer. Celanese Corporation's third quarter 2017 earnings release was distributed via Business Wire yesterday after market closed. The slides and all prepared comments for the quarter were also posted on our website www.celanese.com in the Investor Relations section. As a reminder, some of the matters discussed today and included in our presentations may include forward-looking statements concerning, for example, Celanese Corporation's future objectives and results. Please note the cautionary language contained in our posted slides. Also, some of the matters discussed and presented include references to non-GAAP financial measures. Explanations of these measures and reconciliations to the comparable GAAP measures are included with the press release and are on our website in the Investor Relations section under Financial Information. The earnings release and the non-GAAP reconciliations have been submitted to the SEC on a Form 8-K. The slides and prepared comments have also been submitted to the SEC on a separate Form 8-K. This morning, we'll begin with introductory comments from Mark Rohr and then open-up for your questions. I'd now like to turn the call over to Mark now.

Thank you, Surabhi, and welcome to everyone. We posted our prepared remarks along with earnings yesterday. So I'll limit my comments and then open the line for questions. Starting with Hurricane Harvey, all three of our Texas sites, Clear Lake, Bay City and Bishop were directly affected by the storm. All units were quickly restarted, but logistics disruptions proved to be a challenge. We estimate $11 million in direct expenses and another $20 million to $30 million in lost profit opportunity as a result of the hurricane and flooding. It took extraordinary supply chain and commercial actions to overcome these headwinds. And we are very proud of our teams who worked tirelessly to overcome this disaster and to deliver strong results this quarter. Regarding the tow venture with Blackstone, we have filed for regulatory approval in all six jurisdictions and have already received approval in Mexico. We anticipate that the European Commission will continue to assess the tow joint venture over the coming months with a final decision potentially in late spring of 2018. For consolidated results in the quarter, 2017 GAAP earnings were $1.68 per share with adjusted earnings of $1.93 per share. Record adjusted earnings per share came in at 16% above the level last year despite the hurricane. We also returned $260 million of cash to investors of which $200 million went to share repurchase and $62 million to dividends. The Acetyl Chain core income of $157 million in the third quarter improved 44% year-over-year on sales of $863 million. We were positioned for an improvement in the Acetyl's business in the second half of the year and solid uplift occurring before the storm. Segment income margin for the Acetyl intermediates was an all-time high this quarter of 19.6%, primarily driven by acetic acid pricing in Asia. Material Solutions showed record net sales of $730 million in the third quarter. Segment income in AEM increased 16% year-over-year to $147 million on net sales of $543 million, both records. In the quarter, we commercialized 585 projects, which set us up to deliver more than 2,100 projects for the full year. In Consumer Specialties, segment income in the third quarter was $79 million with segment income margin of 42%. Tow price and volume declined in the quarter versus the third quarter of 2016 due to lower industry utilization rates that we’ve previously discussed. Affiliate earnings in material solutions were $71 million for the quarter, up 18% year-over-year. Now taking our first look at next year, in AEM we expect new project commercializations, M&A and base business volume growth net of the planned site turnarounds to add $0.50 to $0.60 to adjusted earnings per share in 2018. In the Acetyls Chain, we expect commercial momentum to create additional value uplift of $0.35 to $0.45 of earnings per share. Along with other growth-related costs in the range of $0.15, we contemplate year-over-year adjusted earnings growth in the range of 9% to 13% in 2018. We'll provide a more detailed look and updated view of 2018 earnings during the January call. Closing out the year, we expect the sustained improvements in the Acetyl’s Chain and materials core to continue, offset a bit by typical fourth quarter seasonality. Considering these factors, we are confident in our ability to end the year at the high end of our 9% to 11% range for 2017.

Thank you, Mark. I'd like to request all callers to please limit to one question and a follow-up. Denise, please open the line for questions now.

Thank you, good morning. I was just wondering, in your commentary you mentioned M&A still being a component of the AEM growth. Can you give us some sense of scale of assets or properties you're looking at and how much might be baked into that guidance for next year?

Yes, well there is nothing new baked into the guidance beyond what we currently have in the accretion of the current acquisitions that we've done. And I recall folks back to the Investor Day we had a few years ago where we put forth this objective of 8 to 8.50 in that the difference between 8 and the 8.50 was the incremental M&A, using $100 million of M&A profit. And of course there was $100 million more tow in that number. So we really on a corrective basis are more like 7.50 in that. So what I would say is that to push onto the 8.50 number we probably need some additional M&A to help us close that gap. What we’re looking for in scope I think we're not limiting ourselves to just bolt-ons, but Bob that's where most of our activity is these days.

Do you expect those deals to continue being less focused on high volume low price items and more on high price low volume items? Or do you see the potential for higher volumes of engineering resins as you have started to venture into that business?

Yes.

Got it, thank you.

Thank you.

Yes, good morning fellows.

Good morning, Duffy.

Question obviously terrific growth in AEM, first time in a while it looks like you're having to put some meaningful capital with expansions, how should we think about the incremental returns on that capital, how much will it cost to keep growing kind of at the rate we've seen in the last couple of years?

Hi Duffy, it's Chris. Typically our organic growth capital was the highest returning investment that we have higher than M&A. So if you conservatively put our cost of capital at 10%, it's far in excess of that.

Okay. And then on the segment EPS increase that you talked about, is that using a like-on-like share count or is that assuming some benefit from the share buyback when we think about that rolling through the segments?

So I think we've said in the prepared remarks that sort of the below the business stuff is an incremental of $0.15. So that net of some benefit of share repurchases, but not new share repurchases, rather the rollover of some of the share repurchases that we did in 2017.

Terrific, thanks guys.

Thank you, Duffy.

Thank you, Mark. Can you discuss the acetic acid market right now, how it's progressing for the year and specifically what's happening in China from your perspective?

Yes, I'll make a few comments and ask Scott actually to weigh in here, but we started out this year and we gave our projections for the year. The first time range, we were very careful to let everyone know that we anticipated, expected based on what we saw the business to improve as we went through the year. And so we've taken steps early and we're prepared for that and in fact we saw this, so we have seen improving trends in this business, particularly in China, and that's prompted, it allowed us really to take advantage of our global supply chain and the systems that we have in place to differentiate. Scott, you want to provide maybe more local color on China?

Yes, I will, and David, I mean, China is in an improving environment in acetyls and it's particularly improving in acetic acid which really drives acetyls in China and drives acetyls globally as well. I mean, one of the reasons that it's improving is, I mean China is having to run more in a real business environment, right? You see regulatory things come in, you see environmental things come in, you see a drive for profit and all of those things are driving up instantaneous capacity utilization of acid, right? That's different than nameplate capacity utilization. But it's running at a much more comfortable level and that gives us the ability to apply our model quickly and you see that result coming through and we expect it to continue.

Mark, you’ve discussed in the past perhaps doing an Acetyl-like transaction with acetic acid, how is the potential looking for 2018?

Well, I mean, that's been awful specific on day, so I think we're working hard with all of our businesses which we think each one leads the world in its own way. We're looking hard to find ways to continue to shore up and monetize those in a way that is additive to our shareholders. So what I would say is that we're working that equation, but I wouldn’t go so far as to put a date on it.

Thank you.

Yes, hi, good morning.

Good morning, Frank.

Mark, two weeks ago one of your competitors suffered an outage, can you talk about how that has impacted your business over the past couple of weeks and what the outlook would be?

There was indeed an event that you are all aware of, and fortunately, I think we navigated it well, so our partner was not adversely affected and the community remained intact, which is a positive outcome. We haven't experienced a significant impact from this; the real question is how long the event lasts and whether it will influence the market significantly, which only time will reveal.

Alright. What sort of lingering effects if any are you seeing from Harvey? You obviously sized the impact in September. How should we think about that in Q4?

Well, as we speak today, we're still trying to get barge traffic to Bay City. We have four dredges. I'm looking at Scott I think wind up outside the plant site trying to dredge a last few miles of the silted up Colorado River. We've been supplying that plant site with trucks and rails and mill trains and anything else that logistics team can get in place to give material down during the product out. So there is a cost, ongoing cost impact to that, we're able to run it fairly successfully though or we found our ways to run it fairly successfully. So I think largely the ripple effects are over from that storm. And I wouldn't anticipate material losses this quarter as a result of it.

Alright, thank you so much.

Hi, good morning.

Good morning, P.J.

Mark, you're introducing over 2,000 projects that's almost 10 projects a day, and you're going to 3,000 next year. So how much of these projects are cannibalizing existing products versus how much would you say new products like your Hammer Handle example?

Well I don't think there is any cannibalization going on. I mean by definition it had to be new, so it's a new application or a new customer that we're going in and put an application into. So having said that there may be some substitution where a person is moving in a lateral way. So but largely I think it's their new. Scott would you agree with that?

I mean all of those projects are new. I mean, it's true P.J. there is some attrition in the business right. As models changed and models go away, but very rarely do we have a new project that actually replaces something that we were already doing and that's called the project. I mean it's really new growth, which helps offset normal attrition that's going on in the business. Are we answering your question?

Yes, that's good. And what is the typical margin uplift from these new products? And wondering why you didn't see a margin uplift actually margins declined. Whether that due to raw materials with the hurricanes?

Yes, I mean as far as the margin slight decline that you see P.J. I mean we do have some impacts in this business from Harvey in the quarter. We lost some sales and have some cost there. But it is the M&A and the fact that we're selling heavily into Asia that's the real margin issue. I kind of missed the first part of that question that you had though. I was asking for what is the typical margin uplift from these new products that you're introducing.

Yes, margin uplift I got it. All the new projects coming at a quite a high contribution margin right, but on the other hand, we continue to support the growth for growth and that adds a bit of cost. And that's why we get back to this guidance that if you think about the base business including the acquisitions we do, so that's without affiliate earnings. An okay margin to think about there from an EBIT standpoint is around 20% trying to hold that level.

Okay.

Good morning. I guess first, could you characterize what you're seeing in terms of year-end shutdowns or any noise you think about the bridge from Q4 to Q1 or how customers are behaving given the turbulence this year?

I don't think there's anything unusual about that. We're coming off a pretty volatile quarter, so I don't want to make specific predictions about what's happening. Generally, people tend to ease off a bit as the holiday season approaches, and things usually stabilize. However, I don't see any significant outages that would have a major impact on us.

And it's Mark. I would just say it's kind of your normal collection. I mean every quarter there is some and the Q4 is not going to be that different.

And then secondly on the trends in China, could you flesh out a little bit you're thinking currently about the degree of demand pull for AEM in China and is there a degree which need to build capacity specifically there to serve that market?

Yes sure. This is Scott again. The demand pull in Asia, particularly in China, is strong for our Engineered Materials business. All market segments are up, and globally, all market segments are increasing. In China, we are seeing good growth in the consumer sector and are beginning to gain traction in the medical sector as well. It's a combination of two factors: there is significant demand, and the Chinese market is eager for our model, which allows us to offer a variety of unique solutions. I expect this trend to continue.

Yes, thank you.

Thanks very much. I had a question about your cash flow slide, in that what you say is to anticipate cash generation of $6.2 billion between 2016 and 2020, including the dividend of $1.6 billion from the JV. So if we subtract out the JV dividend of $1.6 billion, there is $4.6 billion left. So, is what you are saying that over a five year period, you’re going to generate $4.6 billion in cash, or $920 million a year or is that a four year period, how do you do the calculation?

Yes Jeff, it is five years. So if you think our current strategy period of 2018 to 2020 that we’ll talk about early next year in our Investor Day. For that three-year period this is $2.9 billion or $3 billion of free cash flow across three years. So you are about right on that average.

Okay, great. And then for my follow-up, there is a Chinese initiative to have E10 nationwide in 2020. Is that something that would benefit Celanese or is it relevant to Celanese as it actually enacted or do you think it will be enacted?

Yes, and so this is Scott, and you’re right. It is actually, I think it’s probably going to happen one year or earlier, that’s the intention from China is to make that happen one year earlier, where 10% of all the cars sold are EVs right. And there is we see a big push there, I don’t know that they will be completely successful to get to 10%, but it is a pretty dynamic change. And that kind of move is good for Celanese, because we offer a lot of solutions into the EV market, not just the car itself, because the car is our new that helps, but also the batteries as well, so it’s a positive trend for us.

Okay great, thank you so much.

Thank you, Jeff.

Hey, good morning nice quarter.

Thanks Mike.

Mark when you think about AEM, the new project growth continues to be pretty impressive. Can you maybe talk about some of the markets particularly as you look to get to 3,000 next year? What are the areas that are looking to replace the materials with polymers and do you need to find new markets at this point, given you’ve maybe saturated some of these areas?

Well I don’t know, we have saturated anything, but Mike there is just tremendous desire on the part of all manufacturers in consumer goods to continually evolve and update and make more contemporary of their goods, so that evolution is ongoing. What I will say is that medical continues to be a big area of focus for us, we put more attention there, we think there is a lot of opportunities in medical. The Electronic segment that we have set up recently of course now lots of big players in electronic, we had been focused on as much as legacy Celanese and that’s an area of real growth for us. Now let’s say broadly in consumer applications, we gave an example in the handout that we did hammer handle I know it sounds somewhat a little bit low tech, but it’s a pretty impressive opportunity to use some of our technology. And we are seeing lots of interest on players like that really to upgrade in many ways. Automotive remains important for us and we are demonstrating really strong growth in automotive in spite of global trends and that really is also one of that continual upgrade that we talked about earlier. So I would list those four as areas of real focus.

Okay. And then when you think about $0.50 to $0.60 EPS per share growth in AEM in ‘18 versus ‘17, is the turnarounds a big negative impact and then how much of that growth will come from the Ibn Sina production expansion?

We do have some turnarounds planned in materials for next year that will affect that volume. Without those, I believe we could see an increase of another $0.05 to $0.10 in the base business. We have noticed that contribution, although we haven't disclosed the exact amount, is not insignificant.

Yes, it's not de minimis. This is Scott, I mean, I would tell you we will see less of that we have been seeing a POM contribution through equity income and a little bit more that's in our base business because it basically supplies some of those products to our base business to go out and execute projects by.

Got it, thank you.

Thank you, Mike.

Thanks very much. Chris just on the working capital comments this year vis-à-vis your free cash flow targets, is that a new level of working capital based on the growth rate or some of the stuff that’s just being reversed next year and help free cash flow next year?

Yes, let me sort of take that in two pieces. So first, we're as you know we came out now and said look we're going to be towards the higher end of our guidance. We've had some nice growth across the business and along with that when it’s the top-line growth comes and investment in working capital. The other thing that's driving that you heard Scott talk about strength in Asia and when our business is growing in Asia quickly as it is right now in acetyls and has been for a couple of years in engineered materials you're growing in a region of the world that typically has longer payment terms for accounts receivable. So that's why we've come out and said look working capital may be a little higher than we thought. To answer the second part of your question, I think that continues on into 2018 provided that business stays strong in Asia and raw material prices stay a little bit elevated if those things reverse, then yes your working capital would reverse.

Okay. And then shockingly no one has asked about acetate tow yet, so I will. It sounds like you're expecting the segment to be flat next year, because your comment on where price negotiations are for the uncontracted portion of your volume. And then any thoughts or comments you have about the FDA’s recent indication they would like to take nicotine out of cigarettes over some period of time. And what would impact that might have, I can see some good things and bad things from that for your business plan how it shakes out, so any thoughts would be great.

Yes, Vince, this is Scott. Regarding the contract season, some portions of that business are secured for another year or two, while we have completed negotiations on another part, and a smaller portion is still to be finalized. The industry remains competitive, and there is some price pressure. Generally, I expect our performance in 2018 to be relatively flat compared to 2017, indicating we are at a low point. As for your second question about the FDA's proposal to eliminate nicotine, it is uncertain how this will affect the industry. Depending on the delivery system, the demand for cigarettes could either increase to achieve the same nicotine levels or decrease. Ultimately, we really don't know.

Okay, thank you very much.

Thank you, Vince.

Thank you, can you hear me?

Yes, John.

I’d like to go back to Jeff’s earlier question, which Scott I think you answered as an electric vehicle question in China, but I thought he had asked about, which is another announcement that China had back in September. And I would think if they’re going to go coal based that’s something you would know about, but it doesn't seem to make sense for them to go corn based given they import. So do you have any thoughts on that announcement?

Okay. Yes, okay sorry, I heard, EV, but I think he said E10, got it. Yes, on ethanol how will it go? Look that's kind of a no impact for us; we don't expect that to be material to us in either way.

And then on the Celstran polyacetal in the ultrahigh molecular weight polyethylene expansions, with the capital required their scale off of past reactor capacities or is there anything that would make those more or less capital efficient projects for you?

Yes, I mean, look as far as the ultrahigh molecular weight polyethylene part of that is incrementally expanding capacity and another part of that is a substantial additional system at a site where we already produce that. So you can think all of those expansions as being incremental. The other part of that the LFT part is effectively just another line at a site where we already produce it.

Okay, thank you.

Yes, good morning. Question on capital deployment, you bought back $200 million of stock in the third quarter yet in your prepared remarks, I think you commented that you do not expect additional repurchases unless they're opportunistic or related to tow JV. So I was wondering if you could clarify some of the thinking around the opportunistic piece of that. And how you're weighing your options for capital deployment through year end?

This is Chris; we're always looking for buying opportunities. But in general now that we've completed the $500 million of share repurchases that is what we set out to do this year. So that's likely the ending point for the year. I just don’t want to ever say never and just depending on what kind of opportunities we have. The piece that's tied to the JV that really is repurchases that will be timed together with the proceeds that come from the day one dividend on that joint venture.

Understood. And then as a follow-up, Mark, I was wondering if you could speak to the margin outlook in AEM. You've obviously had some mix effects related to your acquisitions. Perhaps you could elaborate on what's going on with the underlying margins and your efforts to raise the margins on the acquired properties.

Most of the businesses we examine have significantly lower margins than ours. We're undergoing a process to improve those margins. This involves enhancing productivity, which is already in progress. Additionally, we're optimizing asset usage from recent expansions to reduce operational costs associated with third parties. We're also focused on upgrading the quality of our products, moving away from lower-end offerings. These efforts are ongoing, and we aim to reach a margin range of 20% to 22%. Currently, we're slightly below this target, but we expect to increase it as we enter next year. There may be some pressure from ongoing deals, but our goal is to stay within the low 20s margin range during this acquisition phase.

Perfect, thank you very much.

Yes, sir.

Good morning, thank you. Just had a question on the Acetyl’s Chain. Maybe you can just help us understand the $0.35 to $0.45 growth for next year. What's kind of embedded on a pricing standpoint? Do you see do you expect some of the recent pricing to be sustained through next year?

Yes sure Arun this is Scott. I mean we have momentum going into next year. So the biggest part of that $0.35 to $0.45 a share will be continued margin expansion. The other efforts we have underway have a little bit more to do with growth. So at the same time we'll be bringing in volume growth. Margin expansion number one, number two will be some volume growth.

And similarly on the tow side, what gives you guys the confidence that that will be neutral now after a couple of years of declines?

Well I think just our position with where we are in terms of knowing the outlook for next year already. Some contracts done some recently were being done right now a few more to do; we know we have a very good view of where we're going to be next year. There is still work to do there. We still have to have a little bit of productivity to get there, but we're working on that. So it's a decent view.

And so if you were to roll it up, I mean, what would you say are some of the swing factors that would kind of push you towards the 13% projected growth for next year?

I think organic growth comes from performing well across all businesses. We have strong momentum in acetyls that we need to maintain, and we’ll see how long we can keep it at this level. In engineered materials, our project outlook has increased to 3,000. Additionally, we no longer face the same significant challenges that we did previously with tow. Considering all these factors, if everything aligns, we could approach the upper end of that guidance.

Great, thanks.

Thank you.

Good morning, Mark. Just wanted to sort of bring up the 2018 guidance again, back obviously in end 2015 you guys were guiding to long-term call it 2018 guidance of 8 to 8.50. If I do comparing contrast where we were in '15 relative to where we are right now obviously a couple of moving parts. It seems to me China seems to be a bit better, Europe seems to be a bit better, U.S. seems to be a bit better economically. But obviously back then maybe tow wasn't as bad as it looks today. So just want to figure out this sort of newer guidance that you're giving of call it 8.04 to 8.24, where the deltas were versus what you've guided to 8 to 8.50 back in end 2015?

Well just first off, what we classically do this time of year to share our first look at next year. So I would call it a little bit short of annual guidance that is just the range as we look at our data today that rolls up. And we will give to the extent there is an official guidance we will give that in January for the year. Nonetheless when we look at it we rolled up the numbers we put forth that frankly I think we do believe we could do at 8 to 8.50 had a bunch of factors in there most predominantly was growing the materials business. And we were putting out numbers at that time of just starting to new project introductions and there was a lot of skepticism we could do that and I think the team has shown we have the ability to grow that quite handsomely and that has been one of the strongest stories of that three-year period. I think the second piece to that was the Chain business, how we get the Chain business to move up from trough numbers in the low double-digit kind of range. And we gave a range I think a 12% to 16% earnings on that, we're starting to demonstrate and we will stay what we think the appropriate range is going forward next year. But we've shifted that up with a lot of activity and lot of things to numerous dimensions over this call that it really stabilizes our business a lot and give us more global reach with that business. So those two things were big, big factors in pushing it forward and gave us that concept to the range we were very clear that to do the high end of that 8 to 8.50 we need a material M&A, material. So you could translate that and say that we were thinking maybe $0.50 of M&A, which should be $100 million and of course currently we're maybe a third of that kind of levels where the deals that we've done. So if you want to deduct and you are to deduct that $0.30 off of that for that region alone. And then of course tow was not expected to be down from where we were it's actually expected to be flat to up. So that's another probably $0.50. So I think on an apples-to-apples basis it should be like 7.50 next year. So this is doing better. We're creating more value, and we're still are trying to do deals. So we're not walking out from anything we said in the past. But right now we see ourselves being kind of in the middle of it.

Understood, very helpful. Now as a follow-up, obviously a bunch of moving parts around sort of naphtha, whether it's going to be sort of disbanded or certain amendments whatever the case may be. And at least as I take a look at your sort of 2016 revenues call it 2% of sales from Canada, another 4% from Mexico. Just would love to hear your thoughts about any changes to naphtha or a disbanding of naphtha would that impact you guys at all?

No, we don't anticipate any significant positive or negative impact from that. For us, it's really about the fact that vehicles are being continually modified and upgraded. We are experiencing strong growth in that area, regardless of whether the overall business is growing or shrinking in different parts of the world. So whether we build a bit more or less, the location, like Mexico or Canada, doesn’t really affect us; we are indifferent about where they are built.

I understood. Very helpful. Thanks so much, Mark.

Denise, let’s take one more question and it will be the last for the call.

Thanks. You have had a management departure in Acetyl Chain change, who’s going to be running that business going forward and what’s you’re thinking on the planning and management there?

Gentleman name Todd Elliot, you know Todd is running the commercial operations of the corporation for a long time, has been also growing our European operations and he has taken that role.

Great. And on the bridge to 2018 EPS, with respect to the tow JV, I think you initially indicated that there would be cost synergies that would be offsetting interest costs for that. And I think today you are framing it as interest costs are kind of being offset by the share buyback activity. If you could just reconcile that a little bit and are you assuming here a mid-year close for the JV, or what would be the timing for it to make the bridge work?

Yes, for planning purposes, we mentioned mid-year to simplify the calculations. We anticipate a minor EBIT contribution from that, but it won't impact EPS on an annualized basis because the interest costs will be covered by share repurchases. Thus, the EPS range we provided does not reflect that. However, the timing is crucial and will depend on how quickly we can get to market, which could result in some fluctuations during the year.

And synergies will eventually offset the costs of interest it’s just there is a gap in the time.

Thank you very much.

Thank you.

Thanks, Denise. We will wrap up the call now. Thank you everybody for your questions and for listening in this morning. We will be around, if you have any further questions after the call. Denise please close the call.