The Urethane Blog

Covestro Investors’ Call Highlights

Markus Steilemann

Thanks Ronald, and good afternoon and good morning to all listeners from the United States. The first quarter was challenging, but developed in line with our expectations. The year-on-year comparison looks weak. However, compared to the fourth quarter of 2018 results have improved.

We were able to limit our year-on-year volume declined to 1.8% despite a high comparison basis, a very weak automotive market and internal production limitations. Our EBITDA decreased significantly in the year-on-year comparison but improved slightly quarter-on-quarter.

The free operating cash flow was as expected slightly negative in the first quarter reflecting the usual seasonality and the higher CapEx for our growth initiatives. Based on this set of results and despite continuously challenging economic conditions we confirm our full year 2019 guidance.

Let me provide you on slide number three with some more details on the global core volumes that declined by 1.8% year-on-year primarily driven by the lower demand in automotive.

We estimate that global auto production declined by minus 5%, destocking especially in polycarbonates and limited availability of polyols. We were able to achieve positive volume growth in TDI and MDI which demonstrates our ability to grow even in a difficult macroeconomic environment.

Asia-pacific remained our best growth region. We achieved a solid core volume growth of 3.3% despite declining auto production in Asia-pacific by minus 5% and in China by minus 12%. Growth in electronics, wood and furniture and several smaller customer industries was able to more than compensate the weak development in automotive and construction.

Core volume growth in Europe, Middle East and Latin America suffered from the plant maintenance shutdown of polyols. Based on our estimates, car production in EMLA declined by 6% year-on-year, this burdened all three segments.

Destocking in the polycarbonates industry was an additional factor that diminished volumes. Auto production in North America declined by 5% in the first quarter. This impacted our volume development in this region.

Another driver was the high import of mattresses from Asia due to fears of future tariff, leading to a weak for TDI. Globally, we achieved solid growth rate in electronics driven by Asia-Pacific and North America.

Positive growth was achieved in construction in Europe Middle East, Latin America and North America. Another global growth driver for the first quarter was the wood and furniture industry, although with arbitrage effect between Asia-Pacific and North America, as just explained.

I’ll now hand over to Thomas for the full set of financials.

Thomas Toepfer

Well, thank you, Markus, and also warm welcome from my side to everybody on the call.

As we can see a page where you have the net sales bridge, our net sales came in at €3.2 billion and that’s clearly below last year’s level.

The main driver as you can see was the sharp decline of prices in MDI, TDI and PCS reducing our sales by a total of €690 million and what you also see in the bridge is that despite the decline in volumes in kilotons we were able to achieve a positive volume growth contribution of €33 million due to the product mix affects that we achieved.

Solid core volume growth rate for MDI and TDI were compensated by a weak polyols performance. So as expected industry utilization decreased driven by the additional capacities that were added during the market through our competitive last year and compared to previous years levels the net sales decreased in all regions, because high MDI and TDI volumes could not compensate for significant decrease in prices.

So let me talk a little more specific about our key products. For MDI, we saw some stabilization in demand and in pricing in the last week. Increasing in construction help to reach the usual mid-single digit percentage demand growth that we usually predict. However, due to the current volatility in the industry we stay somewhat cautious about the further development during the course of the year.

However to say, we’re still in midterm, we continue to expect that the current over capacities will be absorbed by the growing market demands over time. Now for TDI, the industry environment remains very much under pressure. The margins steadily deteriorated into one and this also implies a lower starting point for April which most likely will then lead to a sequentially lower EBITDA contribution in Q2 for TDI.

Overall we assume that the additional capacities in the industry will keep prices at quite unhealthy low levels for the time being, but if you want to look at it from the positive side we would say that is limited further downside risk because we believe that the high cost producer are now really operating at a level where they are at best cash cost breakeven.

So, finally on polyether polyols, the product continues to be slightly below the long-term average in terms of margins. So overall if you look at the lower side of the page you’ll see that the EBITDA margin came out at 10.6% in Q1 which was clearly below the last year’s level primarily driven by the significant lower MDI and TDI margins, but again if you take a quarter-on-quarter perspective we’ve seen improvement by almost our percentage points triggered and driven by lower costs.

Charlie Webb

Just a few for me. First up on the volumes, just are we think about that sequentially in the Q2, there’s no Chinese New Year, you’d imagine – you could understand the outage you currently have in Dormagen relative to the polyols outage you had in Q1. What should we expect sequentially, basically Q2 and Q1? That’s the first question on the volumes.

Second question, just on raw material, we didn’t see a huge amount of raw material release in the Q1. Is there lack effect to that? Should we start to see that come through more in Q2? Was that driven by the polyol outage? Was that having an effect on that? Or should we expect some more unwinding of the raw materials in second quarter?

And then finally, just comment around the €1.8 billion currently mark-to-market or marked to March margin for the full year. Is it fair to say that MDI spreads have improved since the end of March and then TDI now is now is starting to slight improvement off the bottom in March, at least in Asia — in April, sorry in Asia. Just to tell that comments was relating to margins as of March not as of April — end of April?

Markus Steilemann

Charlie, this is Markus. I would like at least to take the first two questions. If you compare volumes sequentially for second quarter what should we accept without outages? While we would expect that we see slightly higher volumes. However those volumes would be more towards a low single-digit. And yes, that’s the simple answer. On raw materials, well, we would expect for the second quarter slight relief. However we expect them a little bit higher to be in Q3, that is simply due to the fact that we would have most likely two to three months lack, let’s say from purchase to production cycle and also with regard to the inventories. But I would not affect let’s say any major effects from just two mentioned — from the two mentioned topics. And with regards to the third question I would like to hand over quickly to Thomas.

Thomas Toepfer

Look Charlie, as a general comment, I mean what we thought over the course of the entire Q1 is that TDI further decreased while MDI was stabilizing especially over the course, let’s say since the middle of the quarter. And that essentially has — I mean, in terms of directionally continued into April and the two effects are balancing off each other. And this is why, yes, MDI was directionally getting a little bit better, TDI directionally a little bit worse.

The total effect therefore in terms of the mark-to-market remained unchanged. But yes it is fair to assume that we think and you can — I mean there’s also some press comments out there. We think TDI is probably approaching unhealthy levels. So as I said also in my speech, if you want to take a positive thing out of it we don’t expect it to decline much further from the current standpoint.

Charlie Webb

Thank you, guys. Just one quick follow-up, and just relating to the environmental enforcement in China following the unfortunate explosion we saw earlier, I guess, in the quarter Q1, as we look at it, do you see any increased scrutiny from the Chinese regulators around chem parks? Do you expect it could have or will have any implication for feedstocks in terms of your business as we look ahead in to the rest of the year?

Markus Steilemann

Charlie, thanks for the question. We currently look at it. We definitely see that the — and I mean it very positively. The Chinese government and authorities are significantly stepping up not only the legislation but also the implementation and oversight of execution of improved safety and environmental standards across the board. So we also see that those are no longer let’s say specifically applied to particular industry players, but they are really applied to all players be it local or be it multinationals or be it joint ventures, and it also has led to a significant shutdown of chemical operations, of chemical parks, of chemical plants across the country. And it is very clear and obvious that the strategy of concentrating chemical operations within clearly reassign chemical parks is certainly follow trends in China.

So from that perspective we see that the efforts are being now really implemented, being really stepped up and equally applied to almost all participants in the market. Does that affect us? It affect us in a sense that also we face sometimes also unannounced inspections in terms of safety and with that also we face if you would like to say higher scrutiny in terms of how we live up to environmental standards. But I would say if you look into our operations we always had globally unified very high safety standards and very high environmental standards that we’ve always adhered or sometimes even exceeded legally required limits, exceeded in the sense off we were, let’s say, for example, emitting less than actually was allowed. So from a perspective I think we see that. We very much welcome those efforts and it also creates a more playing level fields that we feel extremely well prepared already as of today with the current measures we have in place since years.

Chetan Udeshi

Thanks. Couple of questions. Firstly on MDI, we’ve seen a big increase in China over the last three months. Can you maybe from your experience so far, can you talk about how do you see this emptiness of those price increases as you’ve seen in China? That’s number one. Number two is, also in TDI it seems at least two of your competitors have announced increases in TDI prices in the U.S. from end of the April or May. Is that something you see as well?

And the last question is on the other line of the EBITDA bridge. Just from memory, I think you mentioned on full year results called to the – like low triple digits million euros positive. It seems at least in first half it is flat to even negative. So is the phasing of that positive number primarily second half? Thank you.

Markus Steilemann

Okay. Chetan, let me take the first two questions. On MDI prices, I think we have commented already how we look at the current price development and the MDI prices that was just announced yesterday, if I’m remember that correctly by the largest player in China on the MDI prices, an increase by roughly RMB600 per ton which would reflect something like around three to four percentage point. We still have to wait and see how this develops in the market.

The second topic is, let’s say on the seasonal rebound on construction that might help and support a little bit to stabilization or maybe even very, very slight uptake for MDI prices. We may also see that some of the plans, maintenance showdowns, even though inventories have been build, might help a little bit, but then there’s also again risk one those capacities come back that those prices increases vanish. So, I would rather say on average we would currently face balance market and that’s why I would not see significant opportunities from today’s perspective of real uptick in MDI prices. If we look now into MDI – sorry, in to TDI, sorry, MDI, again, one more flavor you ask, market close in MDI, we expect to be around 6% to 8% that also would mean that we would need more capacities there and currently we still have a net import market for the U.S. in terms of MDI demand. So that’s the current situation on MDI.

If we look at TDI in terms of price increase I think Thomas mentioned that earlier. For TDI we would currently see that we’re hitting levels where some of the incumbent smaller producers and incompetitive producers hit may be exactly their cash cost zero point and there might even the cash burning already. So from that perspective that might explain while some try to increase the prices, would that really be something that would go through in the market, we have to wait and see. Currently, I do, yes, that’s all I have to say, because it’s quite sensitive let’s say to talk about price development in this context here.

Thomas Toepfer

Well, then Chetan, on your question on the distribution of the others. So, yes, I would do confirm the statement that we have made for the full year was a low triple digit amount that we’re expecting and therefore yes, as we only expect maybe slight positive effect in Q2, but I said it will not be a major effect. The distribution is mainly into the second half of the year and that’s what we’re expecting also from our perspective program where some of the measures simply take some time and are back-end loaded before they show their full impact on the P&L. So, the answer in short is yes.

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