FMC Corp (FMC) — Q3 2015 Earnings Call Transcript

Thank you and good morning, everyone. Welcome to FMC Corporation's third quarter earnings call. With me today is Pierre Brondeau, President, Chief Executive Officer and Chairman; and Paul Graves, Executive Vice President and Chief Financial Officer. Pierre will begin the call with a review of FMC's third quarter performance and business segment results, and then discuss the outlook for Q4 2015 and comment on earnings drivers as we begin to look forward to 2016. Paul will provide an overview of select financial results. The slides accompanying today's call are available on our website, and the prepared remarks from today's discussion will be made available at the conclusion of the call. After the prepared remarks, we will be joined by Mark Douglas, President, FMC Agricultural Solutions; Eric Norris, President, FMC Health and Nutrition; and Tom Schneberger, Vice President and Global Business Director, FMC Lithium, to address your questions. Before we begin, let me remind you that today's discussion will include forward-looking statements that are subject to various risks and uncertainties concerning specific factors, including but not limited to those factors identified in our release and in our filings with the Securities and Exchange Commission. Information presented represents our best judgment based on today's information. Actual results may vary based on these risks and uncertainties. Today's discussion will focus on adjusted earnings for all income statement and EPS references, and pro forma revenue and segment earnings for FMC Agricultural Solutions. A reconciliation and definition of these terms, as well as other non-GAAP financial terms to which we may refer during today's conference call, are provided on our website. I will now turn the call over to Pierre to begin the presentation.

Thank you, Brian, and good morning, everyone. As with the last quarter, we have published a slide presentation that accompanies our results and I will refer to these slides as I discuss our results and the outlook for the rest of the year. The third quarter of 2015 was marked by significant foreign exchange headwinds, the effect of which were most pronounced in the result for Agricultural Solutions. However, excluding the impact for foreign currencies, the Ag Solution business performed in line with expectations, confirming the strength of FMC's portfolio and technology in a weak global ag market. Health and Nutrition delivered another solid quarter, continuing to benefit from commercial and operating initiatives implemented over the past 12 months. Lithium continued to see strong demand for its specialty products, including lithium hydroxide, butyllithium, and high purity metals. You will see from our comments today that despite difficult market conditions, each of our businesses is performing well, with a notable exception of our Brazil Ag business. As I will discuss during the call, we are executing a comprehensive program to protect the profitability of our business in Brazil in the current market environment and position the business to deliver earnings growth and higher returns in 2016 and 2017. Turning now to slide one, FMC reported $831 million in revenue in the third quarter, an increase of approximately 1.5% compared to the same period last year. Adjusted operating profit for the quarter was $95 million, a 37% decrease compared to last year. Adjusted EPS was $0.42 which was 42% below the third quarter of 2014. Adjusted EPS for the third quarter was higher than our earlier guidance due to a lower tax rate, which Paul will discuss in more detail shortly. The significant movement in foreign exchange rates compared to last year, especially in the real and the euro, was the main driver of the decline in FMC's earnings compared to the third quarter of 2014, as price increases in local currency were not enough to offset the impact of foreign currency devaluation on our reported results. In the third quarter alone, foreign exchange reduced FMC's reported adjusted operating profit by over $110 million. I will review the impact of FX in more detail when discussing the performance of each business. First, Ag Solutions, on slide two. Ag Solutions delivered revenue of $578 million and segment earnings of $59 million in the quarter, a decline of 32% and 49% respectively from the pro forma results in the same period of 2014. Price increases and cost reductions only partially offset the negative impact of foreign exchange and lower sales volumes. As noted in our October 12 press release, the rapid devaluation of the Brazilian real created significant headwinds for our business. During the third quarter of 2015 alone, the Brazilian real depreciated over 25% versus the U.S. dollar, reducing segment earnings by over $100 million compared to the third quarter of 2014. While we were successful in implementing significant price increases during the quarter in Brazil, these price increases only offset about half of the currency impact. Following the acquisition of Cheminova, FMC initiated a program to rationalize our global product offering and increase our focus on proprietary technology platforms and differentiated products. This portfolio rationalization, which was accelerated during the third quarter, reduced revenue in Brazil by approximately $120 million compared to the third quarter of 2014. Excluding these actions, sale volumes in Brazil declined only modestly compared to the third quarter of 2014 as demand in Brazil for FMC's differentiated products remains strong. We saw continued volume growth in FMC proprietary product offerings including sales of insecticides for cotton, fungicides for soybean, and herbicides for sugarcane. In other countries in Latin America, we continue to see strong demand for FMC's products including selective herbicides in Argentina and products for non-row crops in Colombia and Mexico. Argentina remains an attractive market for FMC. However, obtaining import licenses for formulated products remains a challenge in the short term, reducing our ability to fully take advantage of strong demand for our products in the country. Outside Latin America, revenues declined mainly as a result of unfavorable currency effects, particularly the euro, and lower volumes, largely as a result of weather, weak pest pressure, or excess channel inventories. Due to our focus on cost control globally, earnings outside of Latin America were essentially flat with the same period in 2014. In the face of continued difficult market conditions, FMC aggressively reduced operating costs in the quarter. The cost savings achieved to date will continue to increase throughout Q4 as we accelerate the integration of Cheminova and execute the restructuring of our Ag Solutions operations in Brazil, which I will now discuss on slide three.

Thanks, Pierre. Before I discuss cash flow on slide nine, let me start by explaining the changes we made to the tax report in this quarter. As the schedules to our press release clearly explain, our adjusted tax rate is intended to reflect the underlying tax rate related to business operations. We have always looked to remove those items that are unrelated to the businesses in presenting our tax rate. However, one item that has been causing increased unpredictability in our reported rate is related to currency movements. For us, historically, that has meant the Argentine peso, the Norwegian krone, and of course, the Brazilian real. Simply put, we finance and operate our businesses in these countries in a currency that is different than the local currency, but are forced to re-measure certain financial assets and liabilities into local currencies for U.S. GAAP tax purposes. This re-measurement creates adjustments to our U.S. GAAP tax rate without any corresponding impact on our profits before tax. Historically, these items have been small and have not had a material impact on our reported tax rate. However, movements in the euro last year and the Brazilian real this year have created larger distortions to our tax rate than we have ever seen previously. To put this into context, if we had not made this change in presentation, our effective adjusted tax rate in the third quarter of 2015 would have been negative. Clearly, this would not have been a reflection of our true adjusted tax rate associated with our underlying business and would not have helped any of you understand our business performance any better.

Hi, Aleksey, this is Mark. The credit terms are not fundamentally different this year to any other year. You know very well, all the people that follow the ag space, that a lot of the terms are on crop terms, and we currently have the same terms this year that we've had in the past.

Price increases in Brazil are very much a factor of weather. So what we are saying is, if the real versus dollar is in a stable situation, we will, over time, recover a very large part of what we have lost in currency. Now, our ability to do it will go anywhere from six months to a year-and-a-half, two years, depending upon the market channel and the demand. What we have visibility for right now is the fourth quarter. Therefore, we believe in a stable currency environment that we will recover about 40% of the currency impact in the fourth quarter. That's what we have put into the fourth quarter forecast, and we believe it's highly achievable.

Yes. You've expressed some caution about the outlook for next year in crop chemicals globally because of channel inventories. Can you specifically discuss the level of channel inventories in Brazil as well as in the U.S.?

Yeah. Don, it's Mark. I'll start with Brazil first. You've seen a lot in the press recently about channel inventories predominantly around insecticides and herbicides in Brazil. Insecticides due to weather and low pest pressure, so we see elevated channel there. In North America, it really depends on the types of products. Certainly, insecticides, we see higher channel inventories both for foliar and soil insecticides. We've had basically three years of very low pest pressure so you could imagine the channel inventories build up there. For us, we had a very good year in North America with our pre herbicides, the Authority brands, and we see normal to slightly higher channel inventories there. And then on fungicides, fungicides are pretty normal in North America.

Yeah. Good morning. Thanks for taking my question. So we saw a pretty solid jump that you articulated in the cash flow for 2015. I guess, do you have – can you give us some granularity if the Ag markets play out the way that right now you're expecting them to, what can we see in terms of further cash improvements in 2016?

It's Paul. Let me try and tackle that one. Most of the opportunities I'm sure you're aware are coming through our Brazil receivables balance and as we looked into next year, and obviously we're not forecasting a rapid recovery in demand in Brazil, we would expect to see the trend that we've seen in the first three quarters of this year of releasing cash out of working capital continue. We've been pretty consistent when we've said that to unwind the positions that we have as the market slows down will take at least a full season, which takes you into sort of second quarter and third quarter of next year before we'll start to see the benefits.

Yes, it is a very important question. The work we did was really to preserve the ability of Brazil to grow and to grow earnings. So the way we did it, we didn't go at it by cutting costs and that's it. As you can see, our Brazil organization has evolved over the last two years into an organization which has used maybe a bit too much its position of strength with customers to increase sales in more generic product. Now, in normal times, with the real at that time pretty strong, it made more sense. We were making some profit out of it, but I can tell you, in a situation like the one we have today, the terms which are given to farmers, the weakness in the real do not allow us to have those kinds of sales because they do not bring any profit to the company once all of the costs are removed, including the cost of hedging. So what we did? The first step we took was to remove sales, and we said, this year it's going to be about $250 million to remove sales we had which were not profitable. Once you adjust to a size, where you pretty much have a country reaching sales about 60% of what it was before, then you can adjust your technical sales and, most importantly, support functions to serve a business that is smaller but can have the same type of profit with much higher margin. So that's the way we did it. We believe we protected through this process our technology group, our research group, our technical sales but really eliminated all of the non-profitable sales and used that to reduce the organization. We believe that we will be at least as capable of organization to benefit from growth in Brazil than we were before, if not better.

We have ongoing business in Argentina and essentially what we do is we currently import fully formulated materials into the country. The Argentine government has changed some of the rules where it's a little more difficult to get fully formulated products in. So we are looking at a strategy in Argentina where we will import the active ingredients and then formulate in Argentina itself. That should allow us more flexibility in terms of taking advantage of the market down there. For us, that market is pre herbicides for soy, a big market for us. We use our Authority brands based upon sulfentrazone. Currently, today, we are in the $80 million to $100 million range in revenue. We see that growing despite a difficult market.

So, Peter, the way we are looking at where we are today – and I have to say that it feels like we are right now at a position of stability going forward for the company. I think we have infrastructure in place, the integration is well advanced, the cost savings are coming as we are expecting. So the first step for us, besides delivering on Q4, is really to position FMC for earnings growth regarding of the market demand in 2016. Thank you, Paul. As you have heard, our Ag Solutions business faces a challenging market environment, but on the positive side, the issues we face are largely in Brazil and the impact of its currency. Ag Solutions performance in the current market environment reinforce the strength of FMC proprietary portfolio and technologies. We will continue to invest in our technology pipeline and in the value we bring to growers. Our Health and Nutrition and Lithium business will deliver solid performance this year and are positioned for a strong 2016.