Urethane Comments from Huntsman Investors’ Call

Peter Huntsman

Thank you very much Ivan. Good morning everyone. Thank you for joining us.

Let’s turn to slide number three. Adjusted EBITDA for our polyurethanes division for the first quarter was $140 million versus $261 million of a year ago. Our MDI urethanes business, which includes our MDI, polyols, propylene oxide and formulated systems business recorded adjusted EBITDA of $149 million. This compares with $245 million of a year ago, a $175 million for the previous quarter.

As a reminder and as we called out throughout all last year, in the first quarter of 2018, we were still experiencing exceptionally high margins in the component end of our MDI portfolio. These spiked margins, including above normal operating rate conditions in the prior year period, accounted for approximately $70 million to 75 million of the year-over-year variance. Even in this softer operating environment that we experienced across all of our core regions, we grew our overall MDI volumes by 6%. Our downstream differentiated strategy is performing as we have intended as we saw continued stable margins in the predominant differentiated end of our portfolio. We accomplished this because of our continued drive downstream, bolt-on acquisitions, expanded operations and regional diversification.

Let’s turn to slide number four. In the first quarter, our total differentiated systems volumes increased 2% compared to last year and our overall differentiated margins remained fairly stable. Our global component MDI grew 15% year-over-year, primarily due to our new capacity addition in China. On our previous earnings call, we indicated difficulty in visibility, given the softer markets and destocking conditions that remained and the few months either side of year-end. We shared that a significant portion of our first quarter 2019 earnings were expected in the month of March.

As both expected and communicated, we saw results improved meaningfully as the quarter progressed. As highlighted in the upper right hand quadrant of slide four, this year’s March represented a significantly larger percentage of the overall quarters EBITDA versus the past few years. We see this as constructively positive as we are seeing our customers restock to meet demand. We are optimistic that this momentum will continue through the second quarter and the rest of the year as restocking is replaced with renewed growth.

Let me point out, but for our China facility where new capacity has been added which we will bring up to full rate as the year progresses, all of our MDI units are operating near capacity. Looking at polyurethanes regionally, our Americas volumes increased 6%. Our 2018 acquisition of Demilec account for this increase in volumes. The integration of our Demilec acquisition is fairly on track and we are now in the process of adding this technology to international markets to accelerate the growth of this business over the coming years. Positive markets in the Americas include insulation due to Demilec, elastomers and the composite wood board market. This was partially offset by our adhesives and coatings market.

We have seen U.S. automotive market slightly down and the construction markets started slower than we initially expected, due in part to adverse weather. As we announced last quarter, we are investing in a splitter at our Geismar, Louisiana facility, which is expected to be completed in early 2021. This is fundamental to our North American downstream strategy. It does not increase our MDI capacity, but rather provides us with more variance and the opportunity to further differentiate our products. The splitter will enable us to expand margins in our North American business as we broaden our product range.

Turning to the Asian region of polyurethanes. The startup of our China expansion has fueled our growth in Asia. This region continues to benefit from large-scale infrastructure projects and applications. The adhesives, coatings and elastomers and footwear markets in this region were also contributors to our growth as we continue to gradually shift our China portfolio to the newly added capacity to be more differentiated. Additionally, our automotive market was roughly flat with the prior year despite a significant decline in the overall market, given our ongoing downstream penetration. We continue to benefit from market share gains and product substitutions in the automotive market. We believe that customer destocking in the region has ended. We are seeing inventory restocking as customer visibility and confidence improves. Component MDI pricing improved through the quarter in the Asian region.

Now turning to Europe. Our downstream margins in Europe were stable. However, our volumes in Europe were negatively impacted by weak demand, primarily in our construction and adhesives business as well as lower volumes in automotive. The European region has been slower to improve than we had expected. A tougher macroeconomic environment combined with geopolitical issues such as Brexit have weighed on customer behavior. European automotive has been impacted by regulatory changes impacting production schedules as well as lower demand. However, we are seeing some signs of improving trends starting to show up in markets such as insulation. It should also be noted that we tend to see component MDI pricing in Europe typically lagged Asia pricing by about one to two months. While we remain cautious on the European region, we are seeing some glimmers in certain construction related markets and elastomers that could lead to improved demand in the region as the year progresses.

Let’s turn to slide number five. As indicated in these four charts, the margins in our core base differentiated business continued to remain stable. The graph lines reflect the margins experienced globally and by region within our component and differentiated urethane portfolios. A majority of our business is differentiated and was not materially impacted by the short term volatility of polymeric MDI margins. Within our polyurethanes division, we remain focused on what we can control in executing on our downstream strategy. We have not seen a material change in the long term fundamentals of the MDI market and we continue to see industry growth of 5% to 6% per annum.

We will continue to invest in our more stable and faster going downstream businesses, both internally and through bolt-on acquisitions. In addition to increasing our splitting capacity in the Americas, we continue to globalize our recent acquisitions. Industry utilization rates in the upstream will ebb and flow over the short term as new capacity enters into the market and gets absorbed, but on average we expect the industry to remain balanced over the long term.

We expect the second quarter for our MDI urethanes business to be clearly above the first quarter due to seasonality and modestly improving MDI fundamentals. Our MDI urethanes business is expected to be well in excess of 20% stronger in the second quarter when compared to the first quarter. Our MTBE business reported an EBITDA loss of $9 million in the first quarter. We expect MTBE to be slightly profitable in the second quarter due to improved C-Factors and seasonality.

Sean Douglas

Thank you Peter. Turning now to slide nine. This quarter adjusted EBITDA declined year-over-year by $148 million. Our polyurethanes division accounts for over 80% or $121 million of this decline. Within the polyurethanes, adjusted EBITDA, approximately $70 million of the decline is due to the loss of spike and tight margins within polymeric MDI and $25 million from MTBE, largely due to a lower C-Factor than a year ago. In addition, our polyurethanes division experienced additional negative variance, due to FX.

Kevin McCarthy

Yes. Good morning, Peter, I just wanted to understand the trends in your polyurethanes EBITDA a little bit better. I think in your prepared remarks you called out the $70 million to $75 million from the prior spike and tight market conditions that been unwound and I heard another $25 million as an MTBE variance. So if we adjust for those two things, it looks like the balance of your segment was down somewhere in the low-20s, $21 million to $26 million. Should we attribute that to what is going on in systems as well as PO and polyols? Any additional color on those other moving parts would be helpful.

Peter Huntsman

Yes. Kevin, first of all, thanks for the question. I hope you are doing well. Let’s also remember, there was a $10 million FX as part of that number as well, part of that remaining delta that you made reference to. And look, when we talk about the loss of spike margins, as we pointed out in our previous calls, we also would say in the chart that you look at, there is a color that represents our spike margins, color that it represents what I consider to be tight market conditions that would be when the industry is operating at around 90%-ish capacity utilization or better and then what I would consider to be our core business as well.

So I think that as you look at the compression that’s taking place, I believe that our core business, our downstream business, our core MDI business has remained intact and what we have seen is the loss of the spike margins, which I would say, we fully saw that end in the fourth quarter and we have seen, what I would call the tight market conditions. We saw that throughout the fourth and certainly throughout the first quarter as well.

obert Koort

And then if I could follow-up. You mentioned the weak ag season. Is there at some point a risk of missing sales there? And then I thought I heard you say your auto sales were flat. Can you give us a little more regional color on that? That seems pretty remarkable in light of build rates.

Peter Huntsman

Yes. When we look at comparison to the prior year, our Asian business we see and again most all of this is MDI, there is some other business in there. In MDI, we are seeing flat in Asia. And I would say, in our advanced materials business, which is really one of the only businesses that has a high degree of automotive. Well, I wouldn’t say high degree, but a degree of automotive exposure. That was down low to mid single digits in Asia. Americas was largely flat, down 1% over the prior year on polyurethanes. And Europe was down about 5% or 6%. And so overall automotive was down 3% globally, but virtually all of that was due in Europe.

Yes. And I think that we are seeing a lot of displacement there of other products. And we are seeing, even within the polyurethanes segment shift over from TDI into MDI into seedings and so forth. So automotive continues to be in a good market for us and as I look at it overall, it’s something that we are going to continue to focus on.

Aleksey Yefremov

Got it. Thank you Peter. And maybe as just a follow-up. On slide four, you are showing that March was 47% of $149 million of EBITDA in MDI polyurethanes. So it’s about $70 million in March. So if we just extend that run rate, that’s about $210 million for the second quarter, just sustaining it. What are the offset, because it sounds like you are guiding to somewhat lower number in Q2? I am guessing somewhere around $170 million, $175 million in EBITDA?

Peter Huntsman

No. In my remarks, I said that we would be up about at least 20%. So, you know, I would think it would be very close to $200 million in the second quarter. As I look at pricing now, as I look at momentum now, given that may change in the quarter, but relative to the pricing, the volume and everything, you are probably looking at $190 million to $200 million. And if the pricing momentum continues that we are seeing, it might be closer to that $200 million.

Frank Mitsch

Got you. And speaking of new capacity, I think you indicated that MDI operating rates, you found they were in the mid-80s. You expect that trend to be stabilizing. Just to put a finer point on it with your commentary about turnaround in 2Q into 3Q, on an effective basis, should we see that number moving up in 2Q? And can you broadly outline where you think that number is going to be as we progress through the year?

Peter Huntsman

Yes. I think that that number will tighten in the second quarter. It will probably loosen in the third quarter. But fundamentally, I think that MDI is going to continue to grow at 5% or 6% growth rate. And then you are going to see about 4% to 5% growth rate in new capacity coming on. And that’s not all going to be in perfect sync with each other. You are not going to see growth come exactly as the capacity comes on. But in first quarter rates are typically your lowest capacity utilization throughout the year.

As demand picks up in second and third quarter, you typically run tighter, you run tighter markets in the second and third quarter and therefore you are putting more strain on your plants and so forth. You typically have more mishaps and what have you in the summer, fall of the year. So as I look, Kevin, that mid-80s, mid to upper-80s throughout the year, I think the Americas if going to continue to be tight operating in the upper-90s. Europe is probably going to be somewhere right around 90%, high-80s, 90%. And Asia is probably going to be around 80%.

Laurence Alexander

Good morning. Could you remind us just how much volume uplift remains from ramping up the Caojing JV over the next few quarters?

Peter Huntsman

Yes. Laurence, hope you are doing well. We are running that facility today, probably between 80% and 85% capacity utilization. I am not sure you are going to see a great deal of volume improvement coming from that. I think our real opportunity from a business point of view is taking that polymeric business, we have great splitting capacity in China and our focus there isn’t really selling more volumes, it’s uplifting volume that we have to get higher margins.

Moving further downstream, we have got a great polyols joint venture there and we have got a real opportunity to expand our Demilec technology in China and working our downstream business in China. So as you think about that overall capacity of what’s left between now and the end of the year, I think you will see some incremental growth coming from that. But our focus is mostly going to be improving quality and not necessarily quantity.

Laurence Alexander

And what’s your current thinking around how U.S. margins evolve as the new capacity that’s in the pipeline comes on stream over the next, call it, three, four years?

Peter Huntsman

Well, the Americas continue to be a very strong market. I think if you look around the world right now and as you look at the growth rates, the GDP, given the size of our overall economy, we will probably be adding more demand into North American markets. And as you look at the amount that is coming on to the market, I think again, it’s never going to be demand will go gradually throughout the year, capacity when it comes into the market doesn’t coming gradually throughout the year. It usually comes in one big block. And so it can be messy for a quarter or two. But by and large, I would see stable to perhaps gradually improving margins in the Americas. And our focus in the Americas is going to be on improving the tonnage that we have. It’s not going to be bringing more tons into the market, but rather bringing more value on those tons that we have.

Jeff Zekauskas

Thanks very much. I think your operating expenses were up 4% in the quarter from $242 million to $251 million, but your revenues were down 11%. And probably with the weakening of the Euro, there was an expense benefit to the operating expense line. Why were operating expenses so high?

Peter Huntsman

I think that operating expenses, when you look at the impact of Demilec, adding in the expenses of running Demilec and the expenses of China, bringing China on year-over-year, obviously those expenses are with us on an annualized basis, quarter-after-quarter. You look at our sales in the first quarter, typically just on a seasonal basis, sales were sluggish at the beginning of the quarter. I think they had nice recovery at the back of the quarter. We had a little bit of FX headwinds as well in there. So I wouldn’t be overly concerned about that.

Mike Sison

Hi guys. In terms of polyurethanes, heading into the second half the year you are going to need some improvement sequentially from 2Q. So when you think about the improvement you need to see in the second half, how much of that do you think you can drive in the differentiated businesses and how much help do you need kind of in that operating rate outlook for MDI?

Peter Huntsman

Well, I think we need it to have a combination of both of those, right. It’s not just all downstream. I think that downstream, I am not sure we need better margins as much as we need better volumes. And that is going to be a driver. Again, when you look at our downstream business, about 40% of that, 35% of that is in Europe. And so we gave you guidance at the beginning of the year that we thought that polyurethanes would be down about 8% to 12% from last year’s very strong performance to this year.

If we say Europe continue to languish around a 0% sort of growth and Europe making up as much of the MDI business as it is, we are probably going to be much closer that 12% down year-over-year. So it’s not the margin, I would like to say. I would like to, obviously, see better margin, but it’s the volume that comes through the GDP growth of Europe, that would be, a single thing that I look at on the second half performance. Now again, Asia is performing better.

When we are here three months ago on our fourth quarter conference call, I think the biggest concern of everybody was Asia at that time. And as Asia was going to recover and I think that I don’t want to say fully, but we were seeing signs at that time that Asia was coming around and that Asia was starting to pick up. What we didn’t know if that was just restocking or if there was actual growth that was coming back. I think as we look at Asia today, I think the combination of restocking.

So I think that’s coming to an end. And then it’s real, it’s genuine growth and tightness in the market. So I feel much better about Asia. U.S. is pretty much where we thought it would be. Though I would like to see that pickup in the second half. And the biggest concern I have got right now is Europe. And that’s because of volume, not because of loss of margin.

Mike Sison

Okay. And then, just a real quick one on your 2020 outlook. You have expressed confidence to some degree in being on plan for that. Any updated thoughts on your outlook for 2020 or your goals for 2020?

Peter Huntsman

No. I think that as we look at that, we have got an opportunity, I think, in China not to sell out our capacity, but to sell up our capacity and to further move that downstream into further businesses. I think we have that same opportunity in Europe and the Americas. As we look at Demilec and being able to grow our spray foam business, our downstream businesses are taking our systems houses and the best of our technologies on a global basis. I remain very optimistic about our 2020.

Again, barring an economic something that’s completely out of our control, I remain optimistic as we look at our 2020 objectives. Our performance products, I think we are making some real headway there. Well, obviously we will see some headwinds this year with some of the ag I mentioned earlier in our intermediates businesses as we see a lot of new capacity coming on.

But I think through 2020, some of that is going to be absorbed and little of that will come back. But most of that we are going to see in 2020 an improvement in our surfactants, amines and maleic businesses and textile effects and particularly advanced materials. As we start to see the product pipeline that we have in place today coming into the market and so forth, I think that we are going to be on track to meet those objectives.

Neel Kumar

That’s helpful. And then in terms of the new MDI splitter in Geismar, can you quantify for us what type of impact that should have in terms of the split of your U.S. revenues between differentiated and commodity?

Peter Huntsman

I think that we will see a business in the U.S. that it looks a lot like our European business. And probably in our European business, you have about you 65% to 75% is differentiated. And you will probably see that 70% to 75% movement. Eventually that, we would hope over a few years after that is up and running, you are probably closer to 80%. And again, I want to be obviously clear here, not all differentiated business is good or bad and not all of the downstream or the upstream is good and bad. So in the U.S., we have a lot of volume. We have some very strong customer relationships in our OSB and some of our areas that aren’t, I would consider to be differentiated. But those are relationship that we really value and we want to keep them going for many years to come.

Matthew Blair

On slide three, you show polyurethanes volumes down 9% quarter-over-quarter. Could you provide any more color on that? Was there an MTBE impacts flowing through there?

Sean Douglas

Yes. This is Sean speaking. There was. A lot of times, there is a little bit of lumpiness in terms of the large MTBE shipments that go out at quarter-end. And because of a dock issue and some seasonality in MTBE, we had a delay in shipment that went out at the end of the quarter, which effected volumes. And they are such large volumes that it weighs heavily on the skewing of the overall weighted average.

run Viswanathan

Good morning. Thank you. I just have two questions. One kind of medium term, one longer term. So first on the near term, medium term. I guess, have you seen this kind of bifurcation behavior in Asia and Europe and North American pricing and polyurethanes activity? And if you do you see a pickup in China from an automotive standpoint, would that also help your European business? Thanks.

Peter Huntsman

Yes on both accounts. I think that you will see seasonal times, probably polyurethanes or MDI does not ship easily nor cheaply. And so if regions get tight, you will occasionally see certain regions where you will see pricing and margins will move up. And it’s not that ethylene glycol or polyethylene will just fill up tankers or shiploads of it and ship it out in a weeks time. A lot of that requires cryogenic storage and shipping, again, can be expensive and can cause discoloration depending on the amount of time that takes to ship it.

So typically, if you see a spike in a particular region, usually within a month or two, it either starts to settle down, if you will or it starts to spread into the other regions. And I think in my prepared market I talked about that Europe, oftentimes, will lag a month or two. And again, there is no scientific timing behind that. But typically it will lag a couple months behind what Asia does, assuming that the price increases we have seen in Asia in polymeric MDI is sustainable. It should.

Again, if there is any sort of economic impetus to support it, it should mean higher prices and potentially in Europe in the second half. Again, that’s a tall condition on a number of different things. So I think that as we see that, we would rather see that regional pricing up than down.

There is another part of that question, I forgot.

Arun Viswanathan

No. I was just wondering if you do see continued improvement in Asia that would ultimately help your European business or will it be separate?

Peter Huntsman

I would be really shocked if you did see that. And also I forgot automotive. And typically, if you see the automotive markets come back to Asia, I think Europe has shot itself in the foot. Europe is seeing a decrease in automotive demand because the export markets, particularly in Asia, are drying up for high-end European cars. And then they have also shot themselves by over regulating what once was a great industry in Europe.

And you look at the downtimes now that it’s taking between models and so forth going from days to weeks in some cases not to months in transitioning that. And the uncertainty of those regulations will bring on consumers in Europe. I think that there is probably going to be, continue to be a great deal of, well, some degree of uncertainty in the European markets around automotive. But I think if you see Asia picking up, you are also going to see European exports pick up on automotive demand.

Arun Viswanathan

Right. Great. Thanks. And then from longer-term perspective, you had noted 6% demand growth and kind of 4% supply growth over the next little while at your last Analyst Day. How do you see supply/demand over the next couple of years or so, now following some announcements on capacity and the demand picture as well? Thanks.

Peter Huntsman

I see it as continue to be balanced. I don’t see anything that has been announced that we haven’t taken into our own consideration and the reality of some of those announcements. Again, it is not going to be, you get 4% growth in capacity and obviously 4% growth in demand. It never matches out. There will some lumpiness in it. But by and large, it will be fairly balanced.

Hassan Ahmed

Peter, one of the themes obviously in Q4 was destocking across a variety of product chains. So as I take a look at the MDI side of things, spot MDI prices continue to be under pressure through the course of, well, most of 2018, but seem to have rebounded in Q1. Now as I sort of, clearly no one would want to build inventory in a declining pricing environment. So my question to you is two-fold. One is, where are inventory levels? And is the destocking behind us? And the second question is, if it is behind us, in that 5% MDI year-over-year demand growth figure that you cited for 2019, are you baking in an element restocking as well?

Peter Huntsman

Yes. I think that the destocking, particularly in Asia and I think I would feel fairly comfortable saying the U.S. as well, is behind us. And the restocking, I think, is underway. And again, I think that by the time we get fully into the second quarter, how much of that is restocking and how much that is growth, I am feeling more and more that it is growth oriented rather than just destocking. So I think that as I look at Asia and to a lesser degree the U.S., we are back to those mid single digit sort of growth levels. And we will see a little bit better than that in Asia because of the destocking.

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