ENGIE Energia Chile SA

SGO:ECL

Earnings Call Transcript 2018-Q1

[Operator]

Good afternoon, everyone, and welcome to the Engie Energia Chile's First Quarter 2018 Results Conference Call. If you need a copy of the press release issued yesterday, it is available at the company's website, www.engieenergia.cl.

Before we begin, I would like to remind you that this call is being recorded and the information discussed today may include forward-looking statements regarding the company's financial and operating performance. All projections are subject to risks and uncertainties and actual results may differ materially. Please refer to the detailed note in the company's press release regarding forward-looking statements.

We would like to advise participants that this call is dedicated to investors and market analysts, not for the press. We ask all journalists to contact Engie Energia Chile's PR department for details.

I would now like to turn the call over to Mr. Eduardo Milligan. Please go ahead, sir.

[Eduardo Milligan Wenzel, executive]

Thank you, and good afternoon. We are very glad to welcome you to the presentation of our first quarter results. Thank you for attending this conference.

As I said, we are very pleased with Bernardita Infante, Head of Finance; and Marcela Munoz, Investor Relations Officer, to present our first quarter results. I have to say we are proud to communicate during this session how important the achievement, together with the confirmation of our guidance for 2018.

So let's move directly to the main key messages today we want to share with you. Let's start. Please turn to Page #9. First, we confirm we are in line with the guidance we provided for 2018, the new regulated PPA started in January 2018 and with it come our growth engine in the next 2 years. Second, we recently announced 2 important elements as part of our transformation plan and our mission of becoming a leader in the energy transition of Chile. We finalized the renegotiation of some important PPAs with part of our main clients, and we announced our intention to start closure of coal units 12 and 13 in Tocopilla site. So we will jump to the details in a few minutes. Third, we continue with the development of our renewal portfolio, mainly comprised by wind and solar projects. Our next goal is to bring most of these projects to our ready-to-build stage and launch the construction at best time to market conditions.

And fourth, following the successful execution of projects under construction and the materialization of an important growth in our operating results, our capital structure is ready to support a new investment program and start our transformation plan.

So now please let's move to Page #10. Before showing some figures, we want to share some recent events. For the industry, first, the interconnection began operations last November, giving birth to the Chilean National Electricity System, known as SEN. After more than 4 months of operations, the interconnection has proven to be key to optimize the operation of the system, allowing to reduce by almost 80% the trapped solar PV capacity in the central [ grid ]. This solar production is flowing north-wide to meet demand in the north. Currently, the interconnection is limited to around 700 megawatts. We expect the line will run at its full capacity once the final section of the interconnection in the south is finished.

Second, following the announcement of last January, in which the main generation companies jointly announced not to develop new coal units, a round table was recently implemented to discuss, together with the authorities, the future options to start a gradual decarbonization of the system. This work group will analyze this ambition, taking into consideration impact from different perspectives, like social, economic, regulatory, the system for liability, among other relevant conditions. Finally, in March, 6 companies presented offers to build and operate the national transmission project for an aggregate of $200 million. This is part of the international bidding process launched by the CEN, and the results of the first auction will be known by the end of May -- well, May 24, to be more precise. Now from a company perspective. On April, we signed amendments to Codelco and Glencore PPAs to start a gradual decarbonization of these PPAs, together with an important extension of the contracts. We will explain these changes in a few minutes. We also requested to the CNE authorization to disconnect units 12 and 13. We expect conditions to require to disconnect both units will be fulfilled in the next 12 months.

As you know, the newly related PPA started in January, and demand is moving in line with our estimates and guidance. In this same line, in 2017, we signed bridge PPAs to hedge our exposure in the central system until the full interconnection is ready. These bridge PPAs are already enforced until the end of 2018 for around 60% of the expected demand. In relation to the remaining 2 projects under construction, the port is already in the final commissioning phase and IEM is just starting the commissioning phase. We expect the second project to reach COD during the third quarter of this year. Now please turn to Page 11. In this snapshot, we're summarizing our first quarter results compared to previous year. Total revenues increased by 17%, EBITDA by 39% and recurring net result by 100% compared to the same quarter of previous year. These results are mainly driven by the new regulated PPAs and other smaller PPAs we signed in 2017.

As you can see, in the last row, physical energy sales increased 11% while, at the same time, our spot energy purchases increased 13% compared to the same quarter. This means during the first quarter, we supplied our clients with almost 39% of spot purchases, keeping a very similar ratio as in 2017 but considering a larger base of energy sales. So in this line, our 1 -- our first quarter EBITDA reached a record figure for ECL of almost $92 million. Let's turn to Page 12 to discuss some details behind these figures. We mentioned in the title of this page, demand was supplied with own generation, spot purchases and bridge contracts. What is interesting to see in this graph is that, first, spot purchases continue to become an important source of supply for our contracts and at the lower average price than previous quarters. So we have a positive impact there.

Second, bridge contracts represent almost 60% of the regulated demand in the center. In summary, the average price of these contracts is aligned with the average spot price trend that we foresee in the central region.

And third, units 12 and 13 have been displaced to the last positions in the dispatch ranking. This situation will be even worse once IEM starts commercial operations in the third quarter of this year. And this is why we requested on April 4 authorization to disconnect these units in 12 months. Now let's move to Page 13 to present other important actions we want to highlight. Before we jump into the graph, 2 years ago, in 2016, Engie established a very clear goal to make the group a leader in the new energy landscape. The new energy landscape is being structured by 2 important trends: the first one is the strong willingness of our clients to invest in improvement of the energy usage and the second trend is a strong willingness of the countries to invest in clean energy production. So these 2 mega trends have been possible, as you know, by technological evolution and changes in the mindset of people towards a clear consumption of energy.

And then in the Energia Chile, in ECL, we understood the important of this trend 2 years ago, and we started conversations with our main clients by the end of 2016 to see what alternatives and solutions we can create together to help our clients to improve their energy usage and produce cleaner energy. For a company like ECL, with an important portfolio of thermal assets, this task, as you may realize, is not easy. So then, together with our clients, we found some instruments that created value for both of us. Our main goal in this journey is to adapt our company and move together with our clients. You can see, we finally adjusted this graph with some changes. It's not easy to update this graph every quarter, but finally, we can present a new snapshot in this line. But we are certainly working for that, and our idea is to bring additional news in the future. So as a result of these agreements, the average life of our PPA portfolio increased to around 13 years compared to the previous figure of around 11. Now let's move to Page 14. In this page and in this chart, we translated the changes explained in the relevant note published on early April. In this chart, we included the 2 PPAs we mentioned in the note, and we are also including the El Abra PPA, which is also part of this first phase.

As you know, contractual prices are not public in our market but we try to explain in these blocks the different stages for each contract. In summary, there are 3 different phases for Glencore and Codelco: a first phase in which we agreed a short-term discount in the PPAs; a second phase in which we agreed an additional discount, together with what we call the decarbonization of these contracts, which in simple words means to change the indexation from current formula that includes coal indexation to only CPI; and third, a new contract based on current market conditions applicable for such important clients like Codelco and Glencore. In the specific case of El Abra, we can summarize these changes in 2 phases: a price discount until 2020 and then a decarbonization of the indexation program.

Well, you may ask why are these agreements important for both and represent a win-win relationship, well, the answer is because our clients will benefit from a lower tariff, will become more competitive, we reduced their carbon footprint and we will continue looking further solutions to improve their energy consumption, while for Engie, we will increase the average life of our portfolio of PPAs with this important clients, leaving behind the price indexation to coal and, therefore, allowing us to invest in renewables to gradually replace our coal capacity.

So in Page 15, we present on a different format our total portfolio of contracts, our view of the contracted demand and its current evolution through 2030. Our ambition, of course, is to continue growing, adding new clients to this graph. I want to highlight that from our existing contracted portfolio, which may reach around 12 terawatts hour in 2019, half of this energy is supplied to our regulated clients, the blue area in the graph, and the other half to our free client, the green and brown areas in this graph. As you can see, almost half of the free client demand was decarbonized in this new agreement. What happens with the remaining free clients? Well, we have a close relationship with our clients, and we will analyze together what options we can structure for the future. But as of today, we do not have concrete news yet to share with you.

Other important consequence of what we just explained is that in 2021, the green area in this graph will be, as we say, decarbonized, indexed to CPI. Therefore, as part of our transformation plan and as we explained during 2017, we will focusing on renewables, specifically wind and solar, where growth may come by way of greenfield projects or through acquisitions, together with the development of Las Arcillas CCGT Project. Now that we announced this new agreement, the whole picture is aligned to meet the demand from our clients thinking to reduce their carbon footprint and breaking the tie between energy prices and fuel prices. I am now on Page 16 in which we are showing the region in which we are currently developing different renewable projects. Our Calama wind farm has environmental approval, and we are negotiating turbine project. This project may become one of the first to move into a construction phase. We are also analyzing the capability of acquiring wind capacities in different locations to achieve a greater geographic diversification. Then in the case of solar capacity, we recently completed the acquisition of around 400 megawatts in projects under development from Solairedirect. I want to highlight in this context the important decision of Engie to domestically renew the joint development agreement with the Solairedirect. The decision is to develop all future electricity projects inside Engie Energia Chile balance sheet. So these solar projects that were in development phase have been acquired by ECL. In parallel, we will continue studying energy storage solutions, like the battery pilots we are commencing in Arica. Our clear objective is to develop new sources to gradually replace coal generation. As I mentioned before, we are also working in the Las Arcillas natural gas project, and we are pleased to mention that some days ago that project received its environmental approval. Last, but not least, you will find that we're getting more and more active in optimizing our existing assets and diversifying energy solutions offer. This includes energy infrastructure projects, such as transmission as well as port services, water and also desalinization. And now to continue with the story we want to share with you today, please let's move to Page 17. So in this graph, we want to show the following. First, the important CapEx plan we are just finalizing with you. With almost $2 billion between TEN, IEM and the ports, of which we consolidate half of such amount in our balance sheet considering TEN as they consolidated. As we mentioned in this graph, 2018 represents the end of our CapEx-intensive phase.

Second, since the fourth quarter of 2018, our free cash flow starts to become profitable. Between -- start in 2019, financing capacity for our transformation plan will be released. The company will be in excellent conditions to finance, on balance sheet, the renewal of portfolio that I just mentioned. In this graph, we are just showing the sensitivity following our 2019 guidance in which, at 3x debt to EBITDA, our debt capacity could be increased from current $0.8 billion to almost USD 1.5 billion. You may be interested to know when we are going to start investing in this new renewable project. The answer today is not straightforward yet because we do not need to rush, and this is one of the messages that we want to share with you. Considering market conditions and the number of months required to execute the construction of a renewal project, we need to optimize this decision at the best time to market conditions. So please be patient. We will update our plans in the upcoming quarters, and we share with you our future progress. What we can anticipate so far is that the carbonized PPAs, since 2021, would represent around 1,000 megawatts of required renewable capacity to reach a perfect match between the PPAs and the assets. But again, we need to be flexible and be ready for the best time to market condition.

Finally, to conclude with these key messages, please move to Pages 18 and 19. We confirm our guidance for 2018 and 2019. The agreement we just closed with our clients are already included in the guidance that we provided early this year. We realize that these type of negotiations took several months. So that's why we already included the impact in the guidance as we provided early this year.

On Page 18, and as requested by some of you, we are providing some KPIs we should follow and take into consideration to monitor our guidance for 2018 and '19 and the subsequent years. First, in relation to our PPA portfolio, there are 2 effects: a positive impact of the new regulated PPAs and a temporary negative impact of the new agreement we just announced. Green taxes will continue to be negative.

In terms of demand, the client migration from regulated to free clients continue to impact the overall demand of regulated PPAs. Our guidance is already considering this impact. On the other hand, current commodity prices, which may drive new investments in mining projects and future electric demand, may help to mitigate the migrations. Then for higher coal prices and drier hydrologic conditions may have a negative impact in our margin.

Then the entrance of IEM will be really on for 2019. On the other hand, the closure of coal units 12 and 13 will bring savings in O&M and CapEx compared to their capacity revenues. Please note that these units will be dismantled, and the cost is not material. The site will continue to be used since it is part of the Tocopilla thermoelectric complex in which older units will continue to be operated, like our natural gas combined cycle. Then in relation to units 12 and 13, I also want to highlight that we are finalizing the accounting impact of their closures. Bear in mind that in the recent years, we did some investments to reduce emissions, which are not fully depreciated as of today. So we will probably communicate this negative accounting impact in our next result or, in other words, confirm it in the next quarter. Finally, the interconnection is not currently at its full capacity. An additional delay in the southern part of the interconnection would have a negative impact in our margin in 2019. That will depend again on the spot price, hydrologic conditions, of course, but we expect the project should be ready before next year. And we also can continue applying the same strategy as last year. In that case, we could close new bridge PPAs for a portion of the demand in the center that we will have in 2019. So in general, and the message we want to give to you is that we confirm our guidance and the first quarter results are very in line with our expectations. So now let's move to next section. Bernardita will provide us some additional details about the evolution of our financial results.

[Bernardita Infante, executive]

Okay. Thank you, Eduardo. Good afternoon, everyone.

We'll now talk about our financial performance in the first quarter, so let's move to Slide 21, please. In our guidance for the year, as Eduardo said, we see that EBITDA would reach between $350 million and $370 million. Well, in the first quarter, we recorded $92 million, which is in line with this forecast and represents a $26 million or 39% improvement compared to last year. The main reason behind this improvement is, as Eduardo already said, the new PPA with distribution companies which contributed an additional 441 gigawatt hour of sales. These increased physical sales to regulated company caused a $46 million increase in EBITDA. This largely offset the $7 million decrease in unregulated revenue, mainly explained by the end of the Radomiro Tomic PPA last August. The resulting net increase in physical sale was naturally accompanied by an increase in energy supply costs. First, our energy purchases on both the spot market and through bridge PPAs had a $9 million adverse effect.

Second, even though we reported a slight increase in our generation, coal and order prices increased, contributing to explain the $5 million increase in the fuel consignment. But these effects were small in comparison with the positive effect of the volume increase. Also, the higher price of the new PPA with distribution companies, coupled with increasing fuel prices, translated into higher energy prices, which had an $8 million positive impact on EBITDA.

There are other effects that included a $5 million operational cost increase, mostly explained by the effect of a stronger Chilean peso over our local currency cost. Other businesses like transmission reported decreased margins, mainly because they included positive reliquidations the year before. Finally, our 50% share in TEN's net income, which we compute in our EBITDA calculation, contributed another $2 million. In sum, a very positive quarter. Now regarding Slide 22, there is little to add. Net income virtually doubled and reached $39 million, all explained by the stronger operating performance we just talked about. Interest expense decreased a little as we have been capitalizing interest in our IEM and port projects. This was offset by $1 million in negative foreign exchange and tax rate effect. So let's move to Slide 23, our net debt evolution, which gives off a picture of our cash flows during the first quarter. Our main uses of cash were capital expenditures of $68 million, mainly related to the IEM projects, and also tax payments for $8 million. These cash uses as well as a $2 million dividend payment to our partner in CTH were financed with operating cash flow, which reached $78 million. Our net debt increased by $68 million, basically due to 2 things: one, our cash balances decreased by $19 million as we paid a similar amount of interest on our 144 A bond last January; and two, we signed a 20-year tolling agreement with TEN for the use of 30 kV transmission system, connecting our power plants in Mejillones with the national grid. The agreement has a present value of approximately $60 million and considers annual tolling payments of approximately $7 million. At the end of the 20-year period, ECL will become the owner of the assets. So accounting-wise, this is a financial lease and is not considered financial debt. Slide 24 gives details of our liquidity and debt structure. Net debt-to-EBITDA remained at 2.8x, despite the increasing net debt. And this was due to the EBITDA improvement with last 12 months EBITDA of $300 million, up from $276 million reported in 2017. We do not expect this ratio to exceed 3.5x at any time during the coming quarters as EBITDA should continue strengthening, and debt should not increase by more than $130 million from the levels reported at the end of March.

We have the backing of our $270 million committed revolving bank facility, which matures in June 2020. We have not used this facility so far, and we requested the banks to reduce the commitment to $200 million starting May 4, which we think is still a good backup level for our liquidity. We have taken 1 year debt with Bci, Banco de Crédito del Perú and Scotiabank, at a lower cost than if we had drawn our liquidity facility. In April, after our first quarter books were closed, we drew a $50 million 1 year loan from Scotiabank under similar conditions. This will allow us to complete the financing of our current CapEx program at a lower cost while preserving our liquidity cushion.

As discussed in our last call, our credit ratings has been confirmed at BBB stable on the international scale, by both S&P and Fitch. On the national scale, Feller Rate has confirmed ECL's A+ ratings and changed the outlook from stable to positive last December. Finally, on Slide 25, we can find information on our dividend policy, market capitalization and stock price evolution. Our dividend policy, as you know, is flexible, and in the last 3 years, dividends have been limited to 30% of net income, the minimum allowed in Chile, to support our CapEx expansion. Last Tuesday, in our Annual Shareholders' Meeting, a $30 million dividend, corresponding to 30% of 2017's net income, was approved. We will pay this dividend on May 22. The dividend payout ratio might change going forward, depending on the company's cash requirements and cash availability. At the end of March, our market cap reached almost $2.3 billion, a 9% increase over the last 12 months. So this is from my side, and now I'll leave you with Eduardo to wrap up the presentation.

[Eduardo Milligan Wenzel, executive]

Thank you, Bernardita. Well, to conclude this presentation, I want to highlight in 2017, we mentioned several times it was a year of transition. Now we are very pleased to confirm the agreement reached with our clients. We also are very pleased to confirm our guidance. First quarter results are in line with the expectation. 2018 will be a solid year with a strong EBITDA organic growth, and we are working to continue delivering what we committed to our shareholders.

Our strategy is, in fact, starting to pay off with a clear determination to transform our company with a stronger relationship with our clients and with a clear ambition to become a leader in the energy transition of Chile and, at the same time, creating value for our clients and shareholder.

So we hope this presentation was interesting to you. Thank you for your attention, as always, and we are ready for any questions you may have.

[Operator]

[Operator Instructions] And there look to be no questions, so this will conclude our Q&A session. At this time, I would like to turn the floor back to Engie Energia Chile for any closing remarks.

[Eduardo Milligan Wenzel, executive]

Well again, thank you very much for your participation. And as always, if you have any questions or comments during the next week, our team is available for you. Thank you very much.

[Bernardita Infante, executive]

Thank you.

[Operator]

Thank you. This concludes today's presentation. You may now disconnect your lines. Have a nice day.