Haci Omer Sabanci Holding AS

IST:SAHOL.E

Earnings Call Transcript

[Kerem Tezcan, executive]

Good afternoon, everybody. Welcome to Sabanci Holding Q3 webcast. We have our CFO, Orhun Kostem with us today, and we will start with the presentation and major points of our Q3 performance. Before doing that, please refer to our disclaimer as you can see on the screen. Now I would like to hand over to Mr. Kostem for the introduction.

[Orhun Kostem, executive]

Thank you, Kerem. Good morning, good afternoon, everyone. We are quite happy to host this call to report another quarter of good solid financial results as well as to report on our progress towards our strategic undertakings, which we believe has also been successfully executed in the period. Now if you look at the backdrop of what is happening in the first 9 months of the year, we're looking at the Turkish lira depreciation of about 96% against the dollar and about 74% against euro. And then the latest reading on inflation in the first 9 months was about 83.5%. So I think it's worth mentioning and remembering those when we look at the financial results, which we believe is well above the expected thresholds. Now in this period, if you look at Page 3, we refer you to LC growth and earnings quality, which I'm going to touch base in a second. We maintain the strength of our balance sheet. In fact, we continue to incrementally deliver in the period. And I'm going to show you the undertaking investments that we have been doing as we progress through our strategic transformation.

The return on equity has tripled. It was about 59% in the third quarter. Obviously, our bank's ROE has been up to over 50% quite seriously as well in the first 9 months. The net debt to EBITDA, as I said, fell below 1x. And then one area, as you remember in the last 2 quarters that we were referring to, which was our operational cash flow now have obviously rebounded very, very strongly in this period. We are investing in renewable capacity in Turkey and outside of Turkey to further our climate technology, strategic agenda as well as investing in some disruptive emerging and climate technologies. Now in the next page, that's Page Obviously, when we say renewable energy investments in Turkey, as you know, we have announced energy cellulitis, 1,000-megawatt wind plant investments that are 2 tenders of [ eCat ], and this is in cooperation with Enercon.

And outside of Turkey, we have started our investments towards building a solar power plant in the U.S. as well as investing directly in certain start-ups. One is about the fusion technology and the other one about the drilling, which we believe are some of the technologies that are closest to getting commercialized in the near future. So we further are initiatives, investing in climate technologies, advanced material technologies and digital technologies. And there, I won't repeat. But in this Page 4, you see the progress since the start of this year. Next, we have, as I said, left behind a very strong quarter that brought our 9-month financial performance quite strongly. Our revenues grew about 175% our combined revenue. This is our combined EBITDA grew 159% and our consolidated net income was up 321%.

Now what we mean by quality group obviously is a pattern of growth where we grow our revenue and our profitability growth faster. In these results, I'm not going to touch base, but of course, [ bank Akbank ] has done a very good job in this quarter as well. And I'm sure you must follow the banking sector results are also correct, good. But we believe not only Akbank's results, but underlying operational performance was very, very satisfactory. On the nonbank side, we are also quite happy with the performance of our businesses where the revenues in the first 9 months were up by 17%, 80%. EBITDA was up by 118% and the net income was up by over 200%. So back to the point about cumulative inflation as well as the Turkish lira devaluation, we trust these are good results.

If you look at the existing working environment, the banks also, again, capital adequacy has further improved, which we're quite happy with, gives us not only confidence, but we believe give us more flexibility to be more competitive in the market going forward. Now the return on equity is up in the period. On a consolidated basis, it was 41%. If you look at the Bank's return on equity, it was 55% and nonbank was 27.7%. Obviously, a very good performance, but we're still playing catch up with the inflation. So there's still room for us to further improve. If you look at the -- our cash position, it stands at TRY 4.4 billion at the end of 9 months, which is down from 5.5x at the end of the first half of this period.

Obviously, worth to mention is our investments in the Climate Technologies in the period, the capital advances provided to Axigorta to effect the subsequent capital increase, which is probably due this period and then obviously, our ongoing buyback program. Now -- on the next year see our operational cash flow, which obviously was a laggard in terms of performance in the first 2 quarters of the year, but that was specifically due to the working -- increased working capital requirements of energy on the back of the price equalization mechanism that came with a lag. Now that's obviously behind us. I hope and I trust you listen to our friends, webcast as well, and they have done a great job in the period, and our operating cash flow has rebounded quite significantly now or in above last year's full-year levels.

And finally, net financial debt to nonbank EBITDA on a combined basis is down to 0.7x, half of what it was a year back. I'll remind you that our group's midterm guidance on net debt-to-EBITDA is to maintain it at or below 2x. So we believe, together with our cash at hand at the holding level gives us enough firepower to continue pursuing our strategic initiatives as well as defending ourselves successfully for any potential volatility going forward. If we look at certain details for this third quarter specifically, the combined revenues of the group was up by 192%.

Again, I'm happy to say that the contribution of the energy business was quite strong. We believe our portfolio is an important driver of the success of our business, not only in the sense that we have a portfolio in distribution as well as generation, but also our generation portfolio is quite complementary between all the sources available in the market, which allows us to do a good job on a sustainable basis. The retail growth -- top-line growth in the period was also quite satisfactory on a like-for-like basis. Obviously, the critical point is that we've seen the customer growth to be relatively strong, which obviously supports the top-line growth of our retail businesses.

And last but not least, our Industrials business, obviously, the demand was relatively stable, so to say. If you remember our discussions earlier for our tire manufacturing businesses, for example, the OEM side of that business was not growing. The replacement part of the business is coming quite strong, but in general, has good demand. And together with the favorable pricing, we see strong top-line growth in our industrials business that assists our overall combined revenue growth in this quarter. If you look at EBITDA, again, I'm happy to say the EBITDA growth of 285% is obviously faster than the top-line growth in the quarter. Now obviously, the banks now contribution becomes bigger.

On the nonbank side, I trust you agree that between the energy presence and the raw material prices, we believe our businesses are doing a great job in terms of growing its absolute and maintaining or minimizing any potential contraction in margin in this environment. Energy, obviously, again, our energy business was quite instrumental in delivering strong EBITDA growth. As I said, in both of our businesses on distribution and generation did quite well in the period. And regardless to say, the demand for energy is high for this year specifically, and therefore, our businesses are on the profitability side doing quite well. The building materials, again, we can't obviously help but note that the fuel prices have been skyrocketing for the Building Materials business. And 2 things that we have been focusing on quite diligently. One was to ensure that we continue taking ourselves towards more alternative fuel usage. We have brought it on average, over 20% levels, which is actually at par or even better than some of the EU benchmarks, which we're happy with.

But at the same time, to ensure that we do a very disciplined OpEx management in the period so that we can maximize the leverage out of the top line growth that we see in these businesses, which brought good EBITDA growth. And on the industrials, again, we see strong EBITDA growth driven partly by the top-line growth. I have to say in these businesses, obviously, the fact that the parity euro-dollar parity remains below 1 is not helpful. And therefore, my friends, my colleagues have been able to mitigate this effect quite successfully this year, something to think about for us next year, obviously, under premium failing conditions, but nevertheless, good strong EBITDA growth and contribution to the combined EBITDA of the group. If you look at the net income, the net income growth was over 350%.

On the nonbank side, also, it was very strong at 230%. Again, the energy side, we see the good progress on the operating profit to flow through our bottom line nicely. If you look at our generation business, Energy so obviously continue to deliver on the back of good financial profit and cash flow generation. And therefore, our bottom line net income on the energy side has grown quite strong despite the fact that [ enhanced energy ] has been in the first 2 quarters of the year needed to incrementally fund its growing working capital, which we're happy to note that in the third quarter, starting from the third quarter and given the changes in the recent amendments in the by regulators has been more or less normalized for 2022.

Now on the industrials, apart from the fact that our -- we have a disciplined management of our financial expenses. There has been an extension of the tax incentives for Brisa, so which normally should count for the first 9 months flows into the third quarter that is about TRY 60 million, TR 65 million impact. So there is a jump. But nevertheless, good bottom line performance. And on the building materials as well flowing through the operating profit, we see strong net income performance, hitting the bottom line, therefore, contributing very positively for the combined net profit of the business. Now I will now hand over to Kara, which, as always, we'll take you through into certain details of our business units before we convene again for closing your questions. Thank you.

[Kerem Tezcan, executive]

Thank you, Rob. Let me start with energy. We continue to benefit from having a portfolio in our energy business in terms of generation and generation energy trading and distribution and retail. In Q3, Energy segment delivered a robust performance as EBITDA more than doubled, thanks to the contribution from both businesses. net Energy recorded a strong performance as the Distribution segment's EBITDA more than doubled compared to last year, thanks to the higher financial income on higher inflation trend and change in financial asset model approach, leading to a higher IRR. The strong growth in financial income test and equivalent collection with higher nation tariffs and hedge gains more than compensate for lower OpEx and CapEx outperformance due to the impact of higher commodity prices.

As of 9 months, regulated asset base growth reached 68%, mainly reflecting revaluation of opening balance with inflation. In the retail side of our energy business, gross profits more than tripled driven by volume growth, impact of increasing procurement costs and inflation and base impact in [ liberate ] segments. Higher gross profits in core business supported EBIT despite higher OpEx spending as a result of high inflation. In the first half of 2022, the cash flow was negative due to the fact that continuing increase in electricity procurement prices were not supported by national tariff levels and the fact that any inflation assumptions incorporated to nation tariff calculations were below realized inflation.

The cash flow in 3Q recovered due to numerous measures introduced by the regulator to address the sustainability of the system. Financing costs increased on a year-on-year basis, driven by both higher inflation, higher financial debt, and interest rates, and increase in revaluation expenses of customer deposits due to elevated inflation. Meanwhile, financing costs is on a quarter-on-quarter basis as quarterly inflation increase increased decelerated and net debt declines.

Thanks to strong operating performance, the company's net income increased by 168% year-on-year, more than offsetting higher financial expenses. Looking at the generation performance. In generations, revenue were most codebooks, driven by much higher spot retested prices as well as vehicle Turkish lira despite lower generation and sales volume. Even though hybrid generation volume increased compared to last year, total generation volume declined by 8% year-on-year as a result of the efforts to optimize natural gas plants production to reach the highest profitability level as far as spark spreads are concerned. EBITDA triplets as natural gas profitability increased on higher spark spreads due to higher market prices in addition to higher renewable volume in Q3.

Moreover, our team stability on energy rates, which led us to capture market opportunities and higher dispatch contribution supported EBITDA growth in the quarter. Despite increase in effective tax rate, net income registered solid returns compared to last year, thanks to the robust EBITDA contribution and declining financial expenses. By end of Q3, net debt declined EUR 61 million, indicating a net debt EBITDA of 0.1x. The decline in the indebtedness is an important development ahead of 1,000-megawatt wind investments as we have already announced in October.

For Industrial segments, combined revenues increased by [ 1.4% ] year-on-year in Q3, thanks to fed volumes in both businesses and well-managed pricing, specifically in the tire business. On the tire, business maintains its operating profitability, segment EBITDA margin deteriorated by 5 percentage points due to declining euro [ Starit ] and inflationary pressures in the tire enforcement business. Coming down to the bottom line, net profit grew by 132% year-on-year, thanks to EBITDA pass-through, decline in net financial expenses and positive effect of tax incentives in tire business.

Moving on to Building Materials. Segment displayed an impressive revenue growth of 168% year-on-year in the quarter, thanks to the sales mix optimization driven by domestic markets. Also, [ Sensata cement BV's FX-linked ] revenue contribution in the segment's results continues at a material range. despite negative impact of higher fuel, electricity, raw material and transportation costs, fuel mix optimization that provide a better energy margin and better OpEx management related to tripling EBITDA, resulting in 1.4 percentage points improvement in EBITDA margin in Q3.

It will also be important to point out that alternative fuel usage ratio improving further to 25% from 16% compared to last year, which is much higher than Turkey's ever drop 9% with the contribution of [ Cinsa's ] new investment at its upfield rates. Finally, the segment's net income grew by 368% year-on-year on the back of solid operational profitability. More that, our net income figure excludes the proceeds from Braccement network optimization, contributing around TRY 900 million to the net income, which we deem as nonrecurring income on Retail segments combined revenues increased by 126% year-over-year takes a strong contribution from both Electronic and Food Retail, which was well above average inflation in Q3.

Like-for-like traffic in both businesses have shown double-digit improvement compared to last year when COVID restrictions started to ease gradually. As impact of COVID-related restrictions disappeared from last year's base, both companies recorded strong performances in food retail online sales and electric retail GMV, driven by marketplace investments. So top-line growth managed to cover elevated operating expenses, especially the minimum wage hike in July 2022, and operating profitability improved in both businesses. Segments IFRS adjusted EBITDA increased by 136% year-over-year in 3Q and margin improvements and margins improved by 0.2 percentage points. Despite higher financial expenses, segment's bottom line with positive contribution from both business.

Financial Services segmented another quarter with robust top-line growth registered as 97% year-on-year, driven by strong performance in all major life and non-life businesses. Segment EBITDA increased by 40% year-over-year, driven by life and non-life business. In life business, hence today, life protection, volume wealth, and pension assets under management, EBITDA increased by 46% year-over-year. On the other hand, in non-life business, underwriting results was adversely effected driven by ongoing increase in inflational claim costs. 2021 minimum wage increase of 50%, ultimate loss ratio up region, which leads to an additional reserve increase, the increase in material damage coverage limits in [ Matunga ].

Consequently, combined ratio deteriorated to 134% in the quarter compared to 112% last year. However, the increase in financial income offset the negative impact of underwriting results and EBITDA grew by 28% year-on-year. We would also like to conduct that with the contribution of increased financial income and improvement in MOD products profitability, non-life business generated net income in 3Q. Despite a slight decline in [ non-life ] business's profitability, higher financial income on increased interest and FX rates in life business resulted in an impressive 76% year-on-year bottom-line growth in the segments. [ Mora ] with the new regulation published by the end of October, nonlife companies are authorized to eliminate the impact of macroeconomic fluctuations in the calculational unexpired risk reserve -- the positive effect of the regulation change will be reflected in Q4, together with the effect of minimum wage increase, which is, of course, scheduled by the end of the year.

Finally, coming to the bank. Despite all the volatility and challenging market conditions and strategic priorities have always remained in tires. Akbank is one of the best-positioned banks in the environment with robust capital, highest-ending peers, solid liquidity, highest level of efficiency, and low operating cost base. Akbank's 9 months net income was up more than 5x year-on-year to BRL 38 million -- BRL 38 billion. The bank achieved an high-catching return on asset of 5.6% and return on equity of 52% as of -- across the board fee performance, market share gains in SME and consumer banking, strategic securities positioning and stellar 1.7 million customer acquisitions year-to-date contributed to solid core operating performance. The bank also further built capital during the quarter, reaching a robust figure of 19.3%, of course, excluding forbearances that main contribution coming from internal capital generation. The sound solvency ratios will continue to provide the bank significant competitive advantage going forward.

So this concludes the details of the segments. And now I would like to hand over to Mr. Kostem for closing remarks and notes.

[Orhun Kostem, executive]

Thank you, Kerem. Again, we're happy to close the third quarter of 2022 in a very good note. Obviously, as we're all aware, there remains to be challenges for the year ahead. However, we are quite confident that we can also closely with this good performance that we have seen throughout the 9 months of 2022. So thank you for your attention.

And now we can move forward with questions.

[Kerem Tezcan, executive]

[Operator Instructions] Well, we have one question. Have you done any inflation work on your consolidated are? What would be the real ROE stripping out the inflation fees?

[Orhun Kostem, executive]

Well, what we did, obviously, we started looking at individual companies inflation-adjusted accounts starting from the first half of the year. The bank, as you know, they have been indicating that they're looking at a high single-digit ROE on an inflation-adjusted basis, which is great. We would be able to give you a more concrete guidance once we see the 9-month inflation-adjusted results for the whole group, I believe should be towards maybe on the back of this year. But in any case, on even an inflation-adjusted basis, given the bank delivers quite nicely, and I believe our energy businesses should do as well, then we should be able to be at the good positive territory. But there with us a little while more please, so that we can give you more concrete guidance.

[Kerem Tezcan, executive]

[Operator Instructions] We have another question. Are there plans for the IPO of Energy generation units.

[Orhun Kostem, executive]

Well, look, I'm aware in the past that there has been discussions of Energy's IPO which at the time, my understanding is that the -- the business was not in necessarily in great shape versus how the market was today. If you're following up on our disclosures. And if not, I will obviously happy to guide you to the fact that an SNS performance is very, very -- and [ Akbanks ] teams performance, I'm sorry, it's very, very satisfactory, both companies, but specifically in [ situ ]. And however, it's quite questionable whether that's the right time to do an IPO. Going forward, obviously, we would need to align with our joint venture partners to see or weigh the benefits of such a transaction, which could be a number, which could obviously favorable in a number of ways. But for the moment, we don't have any concrete decision for that.

[Kerem Tezcan, executive]

We have another question. What is the growth strategy in the U.S.? And what extent do you target to grow in the U.S.

[Orhun Kostem, executive]

Now obviously, first of all as you know, our stated purpose, as we're saying, is to grow in 3 areas, if you exclude the financial services, of course, one of them is climate technologies, materials technologies, and digital technologies. And Material Technologies, we're looking at renewable energy generation capacity to grow in Turkey and outside Turkey. When we look outside of Turkey, we've seen that the biggest market globally for renewable capacity or renewable demand is China where we don't have any intention to do any business in the foreseeable future. So the second largest market is U.S., which is attractive for us, also in the fact that, again, I'm sure you must be following through our strategic dialogue that we're looking to improve our FX revenue streams. We're looking to diversify our regulated base. And also we want to make sure that sustainability is at the core of our decision-making for capital allocation. So this ticks all the boxes in that sense.

Now if you look at U.S. market, 100 gigawatts of renewable capacity is installed in the last 3 years only, there is a serious push to continue increasing the renewable generation capacity in the U.S. If you follow the inflation Reduction Act, it was an important facilitator to accelerate such investments basically. And again, if you look at the -- some stated commitments that the U.S. companies have stated that they're going to source some 80% of the consumption from new sources by 2045. Now that makes about 4 terawatt hours of energy.

That's mine blowing. So in that sense, we have started with relatively small, but we can quickly expand we've set to add some 1 gigawatt of capacity in our Turkish generation base, which is obviously relatively sizable given the fact that we had already 3.6%, so it gets us closer to[ 5 ], it's very sizable for Turkey. Even if we build 1 gigawatt in the U.S. to just for comparison purposes, at the same period of time, there would still be ample room for potential growth given the size of the demand is very, very high. For the -- we see investments, I see a follow-up question. Now these are, for us, not only potential financial, let's say, again. The U.S. attracts some 60% of the global start-up investments.

So we see a lot of good ideas in the disruptive emerging technologies in the U.S. in our lines of work. Now we also look at these in the sense that -- because we directly invest in certain startups for Commonwealth, for Fusion and then [ ways ] for deep drilling technologies to see if going forward, once they become commercialized whether we could actually integrate this into our businesses. Now that's a outlook for the time being. Having said that, the purpose of our investments, as you may guess, is not only for financial investment, but we're looking to see ecosystem gains as well as we go forward.

[Kerem Tezcan, executive]

We have another question. How do you see outlook for the energy business for 4Q and 2023? Do you expect the strong craft whether to continue or normalize?

[Orhun Kostem, executive]

Obviously, 2022, first of all, obviously, has been so far. We haven't closed 2022 yet, but so far, has been a very strong year in terms of top-line and profit growth. Now what drives it, we're quite happy about the way that we manage our business. We believe we're quite effective. We have great capability. Our teams are great. Our balance sheet, our resources are a great platform on which we could build our business profitably. Having said that, it's also about the top-line demand and needless to say that this year, obviously, the demand was very, very high. The spot prices remained very, very high.

So that's a bit driven by this year, of course, it's also a bit driven by the general conjecture. I mean we haven't planned for a Russia-Ukraine event, basically. We've seen that come back from the pandemic through the energy prices up, which were even accelerated further with this, unfortunately. Now all I can say is -- and I'm sorry, I wouldn't be able to give you a much different answer. All I can say is both of our businesses, our portfolio approach allows us to capitalize fullest on any demand opportunity in 2023 as well. And if it happens, there's no reason why we shouldn't be able to maintain or even improve our strong profitability.

[Kerem Tezcan, executive]

[Operator Instructions] What competitive advantage with Sabanci have in U.S. renewable energy markets?

[Orhun Kostem, executive]

I believe... Look, I'm not sure at this point, given the level of demand that we need to do anything very differently than the current players in the market. Obviously, we have grown capability in the domestic market in Turkey, setting up generation capacity and managing it very, very effectively. So obviously, that's our competitive advantage. But I'm not suggesting that to you that it's going to take us to the pinnacle of the energy industry in the U.S. That's not the point. The whole point is a very big market with great demand. And more importantly, given the incentives provided in the U.S. market, it gives us very good returns on our cost of capital.

So therefore, that's an important part of the equation. And the other point, as I tried to underline, as I was answering one other question was that it's the most liberated or most liberal, let's say, market probably globally. I'll qualify myself, I don't know all the markets, but probably given the sizable markets, it is the most liberal, so therefore it actually helps us in a great way to build generation capacity in a liberal market and therefore, diversifying our portfolio in the way that we expect. And at the same time, as I said, delivered good returns on capital. So that's actually the whole, so to say, a road map.

[Kerem Tezcan, executive]

[Operator Instructions] So [ Jen ] is revising this question is U.S. market not competitive enough already? So what newcomers such as Sabanci can make good returns?

[Orhun Kostem, executive]

I don't know, maybe not to, as I said, I'm not sure if it's not competitive enough. I'm sure there are many incumbent players in the market who are competitive. So it's not like we're eating easy bread. We need to work hard because in order to do that, obviously, as you might have realized, we're not there to -- we haven't started with acquiring business. We started with building the business. So that's our capability in that sense. However, what makes it work better for us are the incentives that are applicable to all, by the way, I have to tell you, but at least allows even with our cost of capital, which you may assume to be relatively higher than any potential U.S. corporation allows us to generate decent returns on our cost of capital.

So that's our viewpoint. Now we have been -- look, the project that we look at, I have to tell you, we looked at it initially, and then some other party was awarded the tender and tried to start the project and couldn't. So it came back to us. And now we're finishing it. So I don't know if it's a competitive advantage. All I'm saying is we believe we know how to do business or how to build generation capacity. So we'll put it into use as we build our base, hopefully, for renewable capacity in the U.S.

[Kerem Tezcan, executive]

[Operator Instructions] We have another question. Thank you.

[Orhun Kostem, executive]

Well, thank you, [ JP ].

[Kerem Tezcan, executive]

[Operator Instructions] It seems like we don't have any further questions on a late Friday afternoon. So thank you all for joining. And I would like to once again hand over to Orhun Kostem for final remarks.

[Orhun Kostem, executive]

Thanks, -- thank you, Kerem, and thanks, everyone, for joining. Now look, Kerem was telling me that the consensus estimate in Bloomberg for our net income, well, for the full year, we have reached it by this 9 months. So I'm happy with the performance that we have so far. We are aware of the challenges going ahead. We believe we have the capacity to manage our business very successfully in light of those challenges and looking forward to meet with you once again when we close the year through pro back on our progress. With that, stay healthy and have a very good weekend. Bye-bye.