Sasol Limited Q2 FY2020 earnings call

• Prioritized short-term objectives like focusing on delivery to rebuild confidence, operating performance was satisfactory but more improvement needed in areas like efficiencies, cost base, working capital, culture transformation, and sustainability.
• Safety of people and contractors is a key priority, efforts to address safety risks continue. Operations had solid performance with some pockets challenging like mining where productivity turnaround plan is underway. North America LCCP units ramping up, Eurasian production lower due to lower market demand and coronavirus impact on China unit. LCCP faced challenges with LDPE unit start-up delay, root cause established, remediation work underway with expected beneficial operation in second half of calendar year. Financial performance impacted by macro downturn, EBITDA decreased, normalized cash fixed costs increased below 6% inflation level, capital spend declined near end of LCCP construction. Working hard to protect investment grade rating, preserve asset integrity, and restore dividends. Making changes to improve culture, with culture change taking time. Committed to delivering sustainability roadmap and updating broader business strategy at Capital Markets Day.

The financial performance was negatively impacted by the difficult macroeconomic environment. Adjusted EBITDA decreased by 27% or R19.6 billion. Volumes, cost containment and working capital levels were mostly tracking internal targets. Mining business experienced a difficult second quarter. LCCP had challenges with the LDPE unit start-up delay. The LCCP project cost guidance of $12.6 billion to $12.9 billion remains intact. The mining business is a key driver for the integrated coal to liquids value chain. Performance Chemicals' sales volumes expected to increase by 7% and 9%; Base Chemicals' sales volumes expected to increase by 15% and 20%; South African liquid fuels sales volumes range between 57 and 58 million barrels; Secunda Synfuels Operations forecast production volumes between 7.7 and 7.8 million tons; ORYX average utilization rate between 55% and 60%.

• Expect second half earnings to be improved with bigger revenue-cost matching from LCCP as it increases production and sales volumes and capital spend ends. Financial years 2020 and 2021 critical, macroeconomic volatility expected to continue. Mining to ramp up to targeted production levels. Performance Chemicals' sales volumes expected to increase by 7% and 9%. Base Chemicals' sales volumes expected to increase by 15% and 20%. South African liquid fuels sales volumes range between 57 and 58 million barrels. Secunda Synfuels Operations forecast production volumes between 7.7 and 7.8 million tons. ORYX average utilization rate between 55% and 60%. Balance sheet leverage expected to be in range of between 2.6 times to 3.0 times net debt to EBITDA and gearing to remain within 55% to 65% guidance.
• LCCP EBITDA guidance revised, with current run rates and expectations for future increases.

• Macroeconomic volatility which can impact financial performance, balance sheet gearing, and product pricing. Coronavirus impact on global markets, including potential disruption to sales and operations. Delays in LCCP unit start-up due to issues like piping structure failure. Mining business facing productivity challenges and higher cash costs. Uncertainty around the impact of NERSA's gas price determinations.

Q: My questions will really revolve around the balance sheet. Could you give us a feel for how confident you are that we will actually start to see some of that deleveraging come through in this half or should we expect potentially this half to kind of take a long close to current levels? Linked to that, maybe some sensitivities around rand, oil or whatever the metric you think is useful in terms of where we wouldn’t stop, where we -- the balance sheet wouldn’t deleverage and it could actually start trending in the wrong direction from here if some of those demand concerns do play from product pricing. And then just finally, I know you have mentioned in your presentation that you would expect to explore further prudent measures to kind of protect the balance sheet. It looks like a lot of the obvious things in terms of passing the dividend, working capital measures have already been taken. Other than accelerating asset sales, is there other things available to you that you could do?

A: Good afternoon, Chris. Nice speaking to you. Yes, Chris. I’ll basically be obliged to say that the gearing levels that we see at year-end, the 2.9 times and 65%, on the one side, what did work in our favor was effectively that the rand did at the end December at roundabout R14 to the $1. So, the conversion impact of the debt to rand ultimately was more positive than if you do the same sum today with the rand. So, it’s about 15. And I think for Sasol, it’s all important to consider what their translation impact will be on May exact date. But if one excludes that in this argument -- and arguably to say, why do we expect the underlying EBITDA performance of the business to be. Because that really talks to the cash flow generating ability other than valuation impacts at period end. And your question then to say, can we see positive green shoots in terms of the first two months of the year, then we can argue, yes. The month of January was a very good month for Sasol. And the EBITDA realized for January far exceeded in the average performance that we’ve seen for the first six months of the year. We’ve got no reason to believe that today will be any different in the sense that we also expect a very robust performance on EBITDA in terms of that. The warning that I did issue was that we are not inclined currently to give a certain view on corona as it really needs to be fully understood. And based on what we know today and based on the factors today, we have seen uplift in our EBITDA run rate using January and February as a proxy. I think the second thing is in terms of our EBITDA that will significantly shift is that we have made losses for the first six months on the LCCP EBITDA losses. January was the first month we broke even, and February is the first month we really started to anticipate a significant uplift in the EBITDA of the LCCP, so to say that it will kind of push us on a run rate base within that $50 million to $100 million range. And that in itself is a significant shift also to our EBITDA. So, the long and short to be -- to say, I will not be able to answer you exactly where the balance sheet will end off at the end of the year. We are very comfortable with our EBITDA run rate. But let’s watch the closing conversion rate in terms of the debt levels because that can have an influence. But what we see now is we are still very comfortable in terms of today’s rand per barrel rate where our EBITDAs are planning out. In terms of your second question on sensitivities, and again, I think it’s quite important that macroeconomics can over the next four months have an impact on our balance sheet gearing. I would say that for the first six months, if we argue that we started the half year, the second half at the first of January, then we can sustain oil prices on an rand per barrel basis of say above R800 per barrel [indiscernible]. So, the leverage that we’ve seen so far is on average roundabout R850 to R860 a barrel, which is higher than kind of what we can sustain. So, ultimately, very much comfortable with the way things are at, although still being extremely tight. We will ultimately also consider from aging perspective attacking potential protection out on oil. Although our rand and ethane coverage ratios are quite high, which gives us still some prediction, but we will consider specific in the first six months of the next financial year some protection against oil below, let’s say $55 to $50, in that range. In terms of [indiscernible], you are 100%, right. I mean, not really kind of pulling all the management levers to our disposal. I think we’ve been quite successful in the sense that we have been able to manage costs within our inflation targets. The working capital is a very strong positive trend towards the 14% to 15% working capital to turn over. Our capital allocation is really just to sustain our business. So, we’re quite frugal in that sense. Obviously, we need to also push harder on our asset optimization and we start to see some fruits bear on that perspective. We do believe if we push these leavers quite consistently that it should get us over line. And we’ve done that in the past and will continue to do so forward. There’s actually other measures currently that we want to pursue other than this. And obviously, managing the optimal debt maturity on the balance sheet is quite essential. So, these are kind of actions that I cannot talk about right now, but ultimately will also push that to make sure that it has a sufficient flexibility. I think, the last point is Chris is that we feel very comfortable with our access to liquidity. So, even in the event of a potential downgrade on South Africa that might impact us on Moody’s, we do believe that our liquidity position through the cycle is actually quite strong. So, there is many [indiscernible] that we need to manage, but hopefully that answers the questions that you’ve asked.

Q: Couple of questions. Fleetwood, you talk about a piping structure that failed at the LCCP leading on to the explosion. Have your investigations uncovered why this has happened? And maybe dig a little bit deeper into that. I’m quite curious as to the sales of the LCCP product, the polyethylene and the MEG that you’re producing, can you maybe give us some indication where you are selling those products, local markets, domestic markets, maybe Gemini as well? And then, I just see in your analyst book, it looks like you’ve downgraded your EBITDA guidance for the LCCP from about a $1 billion to $700 million to $900 million, $100 million to $300 million down. Is that downgrade just a move in recent prices, or is there anything else in that downgrade?

A: Okay. Thank you, Gerhard. So, I’ll deal with the first question. So, with respect to the root cause analysis that we have completed recently at the LCCP for the LDPE plant, we’ve gathered a lot of information, we’ve used all the experts and the licensors and all the company that was involved with that section of the plant. And I think we surmise that we know exactly what is the cause of the failure. As you can imagine, at this point in time, we are busy with insurance dealings, we’re busy with the commercial contracts that it’s got certain things we need to consider. So, I would not like to give you a final exact answer today. Be rest assured that we know what is the situation and that we will pursue over the necessary details through our commercial agreements, as well as there is still the insurance investigation that is ongoing. But suffice to say is that in a plant like the LDPE plant, it is ultra-high pressure. And when a upset condition occurs, the emergency vent system is put into operation. An incident occurred during the commissioning, which is quite normal for these type of plants. You can expect a number of those incidents to happen throughout the lifetime of the plant and even every year of running. So, the response of how the system reacted in terms of the incident that occurred, it worked exactly as intended. And the only thing that we are very disappointed about is that a component being failed during such an incident of pressure release. So, that’s as far as I would like to give context in terms of that. Rest assured that we do know and that we would be able to remedy the situation in terms of that part of the plant. With respect to the sales distribution and way we sell, I’m going to ask Brad to give you context there. Hi. This is Brad Griffith. Thanks for the question. Can you hear me clearly? Yes, sure. Okay. You asked about -- let me speak with Gemini first, that’s the plant that’s been up the longest in this value chain. We continue to see a good placement of the high density polyethylene in the domestic as well as the global markets and we see good demand for the grades, those products that we -- that we’re making. And I think as Paul mentioned earlier, we’re very pleased with how that plant is operating and it’s been above our expectations for this year. As for linear low density polyethylene, also very good placement of products globally. We’ve seen continued improvements in our production rates and quality, which allows us participate competitively with our cost base there in piping and film market. So again, really good customer base in excess of 800 customers for linear low density. The EO/EG plant is also running well and we’ve been able to place all of our MEG. I think we’ve disclosed previously that we have an exclusive distribution partner for MEG that’s not focused only on fiber resin grade, and so really no issues placing it. Of course, as Paul has mentioned, we’re also monitoring the coronavirus. We’re not exposed to China with our sales. But obviously any impact that we see there will -- can disrupt the global markets, and we continue to monitor that. We’ve recently started up the ethoxylates unit, achievement beneficial operation in January. And we’re very happy with the way that unit’s operating. And we’re now integrating the production of those ethoxylates into our global network. Just a follow-up on that. And all the ethylene that you’re producing in the absence of the LDPE plant working, can you place that easily? Yes. Thanks for that. Yes, for sure. We’re well-connected on the pipeline system. So, in this period that we’re waiting for the LDPE plant, remediation to be completed, are able to place the ethylene. And with the current state of the ethane pricing, we’re still seeing good margins on the ethylene merchant sales. So, Gerhard, with respect to your last question, in terms of the EBITDA guidance, so we can confirm that nothing changed in terms of our outlook in terms of ramp-up et cetera. That’s still as we’ve indicated before, barring the LDPE that we see getting on line later this year. However, the impact largely has been our revised price deck from the industry experts that have been using in our forecast.