FY earnings transcript, page-2

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Yuen Ling Ng, Boral Limited - Group President Ventures & CFO [6]
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Thanks, Mike. Stepping through the transaction. Boral returned to 100% ownership of USG Boral Australia/New Zealand for an acquisition price of USD 200 million. The USG Boral Asia joint venture will acquire Knauf Asian plasterboard business for USD 532.5 million and the JV will sell the Middle East business to Knauf for USD 50 million. The net investment for USG Boral Asia joint venture is $482.5 million with Boral share being USD 241 million. So from Boral's perspective, our total net investment in the business is USD 241 million Asia plus USD 200 million for the Australia/New Zealand business, which gives a total of USD 441 million investment.
In terms of funding, the joint venture is self-funding a proportion for Boral's total direct funding is USD 335 million. This includes the USD 200 million for the Australia/New Zealand business and USD 135 million towards the acquisition of Knauf Asia Plasterboard business.
So the USD 135 million comes about because we start with the $532.5 million investment in Asia, less the USD 262 million to be self-funded in the joint venture, which leaves USD 270 million to be split equally between Boral and Knauf. So our total funding requirement is USD 335 million.
As Mike said, the transaction is immediately accretive for Boral in financial year 2019. Pro forma financial is around 3% to 5%, EPS accretion before synergies. And including year 4 synergies of USD 30 million, the transaction is highly accretive. If we look at the Asia investment alone, we still see solid mid-single-digit accretion, factoring the full run rate of the synergies.
We are buying the Australia/New Zealand business for FY '19 EBITDA multiple of 5.7x, recognizing where we are in the Australian housing cycle and that the Australian market is a relatively matured plasterboard market. It's a business we obviously know well and we'll continue to operate in much the same way as we have been.
Based on financial year 2019, we'll report an additional AUD 576 million revenue, [made] 100% of the business as we were previously equity accounting our 50% share of earnings. The business has attractive EBITDA margins, well above the 16% and once we close on the deal, we will consolidate 100% of EBITDA from the Australia/New Zealand business.
As Mike said, we have agreed to grant Knauf a call option, which would mean the business could return to the USG Boral joint venture within 5 years. This would be a good long-term strategic outcome as the business has been very successful being part of the joint venture.
But until such time, we are in a great position to enjoy 100% of the strong cash flow from the Australian business while retaining full technology and IP support out of the USG Libertyville R&D Center as well as the R&D support from USG Boral's innovation center in Thailand. We'll retain the USG Boral name and the Sheetrock brand, so the transition should be very seamless. We have replaced the previous royalty and non-royalty licensing arrangements with a simplified approach of a single low-cost fee of less than 0.5% of relevant revenues, which will give us access to current, next-generation and future breakthrough technologies. And Tony Charnock will remain as the CEO of the Australia/New Zealand business.
The investment in Asia is based on the multiple of 10.2x for the high-growth China business and the asset values of the emerging Southeast Asian business, which has minimal earnings but is well-positioned for growth.
Looking at our 2 footprints coming together, the USG Boral joint venture will more than double its revenue exposure in China, but with Knauf's more profitable Chinese business, the joint venture will deliver improved earnings out of China. We will see incremental revenue growth in Thailand and Indonesia and a good step up in Vietnam. We will double our revenue exposure in the Philippines and pleasingly, have capacity on the ground so we can reduce imports and better leverage Knauf's domestic manufacturing position over time.
The combined business has revenue of just over USD 900 million on the pro forma FY '19 with USG Boral businesses being around 75% and Knauf around 25%.
Let me now ask Frédéric to take a little bit more time to go through our relative positions in each country.
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Frédéric de Rougemont, Boral Limited - CEO of USG Boral Building Products [7]
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Thank you, Ros. and good day to all. Move one slide.
So to understand the great complementarity within the 2 businesses, let's look at the current positions in every market, market-by-market, where both Knauf and USG Boral are currently present in Asia.
So starting with China. Both businesses have similar size, similar market share and revenue. Knauf has an excellent regional position there and a very high-end market position -- market perception. They are like -- we are in the Shanghai area and they also have a very good position in the South, in the Guangzhou area and in the North, Beijing/Tianjin, where they have only in both regions one high-end competitor being in BNBM. They have successfully established a very strong Knauf brand since they started about 20 years ago, which attracts customer with the highest price on the market.
Regarding Vietnam. Putting the 2 assets together will provide excellent logistics synergies as we have 1 plant in the south, near Ho Chi Minh City and Knauf has one plant in the north, in Haiphong, not far from Hanoi.
In the Philippines, USG Boral brand has a very strong reputation, having been there for years. But all our Boards are imported from Thailand. They recently started plant from Knauf in the Philippines, nearby Manila, will save logistics costs and reinforce further out of preposition in the very fast-growing high population market. Without this deal, we would have invested pretty soon in a plant in the Philippines and obviously, we can now postpone that.
In both Thailand and Indonesia, whilst USG Boral is recognized as the leading plasterboard player with highly reputable brands -- premium brands, Knauf brings additional capacity, which will make our position stronger in both markets.
They have been longer in Indonesia and their brand being reasonably recognized there.
In Thailand, they entered more recently. Their capacity will allow us to postpone some capacity investments, would have had to do without this deal. And they also have a gypsum reserve, which will double our gypsum reserves in Thailand.
In the other 4 countries: Korea, Malaysia, Singapore and India, Knauf presence is very limited and we'll continue executing our existing strategy.
So turning to the last page -- the next page.
I'm very confident that this expanded USG Boral JV will create substantial value. First of all, they are real synergies on the cost side and essentially on the cost side, so that makes them pretty certain regardless of the market conditions.
We have the obvious impact of merging local teams in 5D countries: China, the Philippines, Vietnam, Thailand, Indonesia, plus combining our central offices, Singapore and KL for USG Boral and Bangkok for Knauf. This leads obviously to significant general and administration cost savings and in fact, it makes the biggest part of the $30 million.
Integrating the 9 plants of Knauf into the USG Boral manufacturing network will obviously help reducing the freight costs, the increased size of the network will provide procurement benefits.
The extended network of manufacturing sites will allow some optimization of plant fixed costs.
For example, in Thailand, we have 2 plants side-by-side which will also provide fixed cost savings opportunity as we can have a senior team to manage both sites.
Speaking of capacity. A combination of both networks puts us back in a more comfortable utilization rate, which gives a bit of time before investing further in our fast-growing markets. On day 1, we will keep on each market the existing brands and will work on defining the best branding strategy in a specific way for each market, taking into account the existing position of the respected brands. We already know that we'll have the opportunity to grow to multi-tier branding which can be very powerful in some markets to better address specific customer segment needs. Last but not least, we'll keep our access to USG-leading technology and IP. And we have now -- well, we will have the access to Knauf worldwide leadership, providing not only access to more research and development and product development but also access to critical resources like paper and gypsum. Now that I have visited the R&D center in Iphofen and knowing USG's research center, I'm very excited about the potential of being supported by both, which in my view, are very complementary and really world-class. So Knauf is really a best partner that we can think of in many respects.
Back to you, Ros.
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Yuen Ling Ng, Boral Limited - Group President Ventures & CFO [8]
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Thanks, Frédéric.
Last slide. This slide shows actual financial year 2019 earnings from USG Boral before the transaction and pro forma earnings with the impact of the transaction. The top table shows underlying USG Boral revenue of 1.1 -- of 1.6 billion and EBITDA of AUD 252 million as we reported today. The pro forma column includes the additional revenue and earnings from Knauf Asia plasterboard, all combined in Asia and including Australia and New Zealand business. The bottom table is what Boral reported for financial year 2019 and a $57 million of equity earnings under the actual column. The pro forma column is 100% of the Australia and New Zealand revenues, which is what Boral would have pro forma report on the transaction, revenues of $576 million in financial year '19 and EBITDA of $127 million, which represents $105 million of consolidated EBITDA earnings from 100% of the Australia and New Zealand business and $22 million being our 50% share of after-tax equity earnings from Asia plasterboard joint venture. These pro forma numbers are after adjusting for funding cost in the joint venture and after IP royalty cost in both joint venture in the Australia and New Zealand business and in the new Australia and New Zealand business. However, these numbers are before synergies, and of course, Boral's funding cost would come out after this. PPA adjustments also may be considered then we'll have a better idea of PPA adjustments next time we report. We also have a few additional backup slides that will hopefully serve as useful reference information.
Before we open up to Q&A, I would like to close by saying there is some complexity in working out through the math and understanding the deal, and we are obviously happy to help you through that process. It has taken us many months to get to this point, and we're very excited by what we have achieved and the opportunities ahead for the business in Asia and the business in Australia. I will continue in the role as the Chairman of the USG Boral Asian joint venture until December 2021, where the chair will then rotate to Knauf. We will have equal representation on the Board and Frederic will remain as CEO. Both Boral and Knauf are very much aligned in our strategic and operational objectives, and we're working extremely well together. We have forged new partnership, which we are very excited about.
On that note, we'll open up the room first for any questions for Mike or myself or Frederic or the rest of the management team here about our results or about the deal that we just spoke to.
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Questions and Answers
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Unidentified Analyst, [1]
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Just 2 questions for me. Firstly, just in terms of the FY '20 guidance. Can you provide some detail around what macro housing assumptions you've assumed in there?
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Michael Kane, Boral Limited - CEO, MD & Director [2]
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So for Australia, we're assuming another 15% decline in housing starts in Australia, bring it down to about 166, something at that level. Our view is that, that may be the bottom of the decline in the housing market in Australia, but we still think there's 15% more for it to decline. If you look at housing starts in North America, we expect a small uptick. We don't see a repeat of this year's decline of 2.5%.
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Unidentified Analyst, [3]
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Okay. And then just in terms of positioning the business to be further resilient to these type of market conditions. What do you think that -- what initiatives do you think are further to come from Boral in regards to better positioning the business?
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Michael Kane, Boral Limited - CEO, MD & Director [4]
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So as Ros was talking about the portfolio, we have made just about all the portfolio changes with the last exception being the ultimate divestiture of the Meridian Brick business in the U.S. which will take several more years. But we've done the work. We have reshaped the portfolio in Australia. We've substantially reshaped the plasterboard business in Asia with the deal that we've announced today. The Headwaters acquisition in 2016 has remarkably reshaped the business in North America. So we don't see any more significant adjustments to that. We -- Our investment in the business, we now have a significant lighter investment portfolio than we did 7 years ago. We don't have the bricks business to continue to reinvest in. And we think that what we've been able to do in Australia in terms of the investments in our quarry positions around the country sets us up generationally for quite some time. So if you look at the additional capacity we've taken in to Asia through the Knauf deal, just to give you a relative point of view to look at, our capacity utilization in USG Boral was roughly 80% capacity utilization and they're about 60%. And so there's a lot of free capacity that comes with this deal that will give us the opportunity to avoid a lot of capital costs that we would have to undertake ourselves. So when we look across the network, what we see is we've got the assets that we want and now we have to deliver the synergies for all of these assets, and we're encouraged by what we've seen with the Headwaters synergies and our overshoot this year in the delivery of synergies, and so we're well on track to deliver the $115 million for that.
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Peter Wilson, Crédit Suisse AG, Research Division - Associate [5]
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Peter Wilson, Credit Suisse. Just another one on the Boral Australia guidance. Can you give us a comment on what concrete volume and price you're factoring into guidance? In your presentation, you have presented an external forecast for a 2% volume decline. I actually can't imagine is there any way you're close to what you're actually expecting.
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Michael Kane, Boral Limited - CEO, MD & Director [6]
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Ros, do you want to take a shot at that?
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Yuen Ling Ng, Boral Limited - Group President Ventures & CFO [7]
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So the guidance that we have provided does take into account -- I mean their total industry concrete volumes. As we note that nationally, it's down 2%. And I think that New South Wales will be heavily impacted still with the multi-family coming on. So New South Wales is about a decline in concrete for the industry around 5%. So those elements are included and considered in our guidance.
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Peter Wilson, Crédit Suisse AG, Research Division - Associate [8]
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Okay. So you're still expecting a 2% decline, because that's now -- I guess, 3 of the major cement or concrete companies in Australia that you ever have talked to, 10% to 15% to even 20% volume declines. Just wondering how the market could still be down 2% and may be a comment on how Boral's volumes might be so much different to the market outcome.
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Michael Kane, Boral Limited - CEO, MD & Director [9]
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Well obviously, one of the differences that we have is Adelaide Brighton. They're operating in different markets that we do, that's the first exception. But Wayne, why don't you comment on that.
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Wayne Manners, Boral Limited - Executive General Manager for Western Australia [10]
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Sure. Thank you. So yes, as Ros and Mike alluded to, housing starts being both attached and multi-residential will be down. On the flip side of it, we expect our nonresidential to be up. And if you look in the different markets in Victoria, we're starting to really see Melbourne Metro kickoff. The West Gate Tunnel project really kicking off. So Sydney's Northern -- NorthConnex is coming off in the coming months as is Sydney Metro, so it's really a mixed bag. But compared to the Adelaide Brightons and the like, we are in a really strong position on our major projects and some of those are really picking up through those -- through -- particularly Victoria and also some south really, Cross River Rail and the likes coming up, Queen's Street Wharf and the like in Queensland. So a mixed bag but yes, I think 2% roughly in line.
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Peter Wilson, Crédit Suisse AG, Research Division - Associate [11]
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Can you just maybe build those comments into -- currently, you talked about July and August trading additions which I get the implication was that July and August are being weighted. Can you just, I guess, build those -- your comments just then into -- put that into context in July and August?
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Wayne Manners, Boral Limited - Executive General Manager for Western Australia [12]
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So in July and August, and we've seen the project in Victoria I spoke about are really ramping up. They're not at full steam right yet. But NorthConnex and the like is still going very strong in Sydney. So in terms of volume and everything else in July and August, relatively good. And we expect them to improve as the projects really ramp up in other states.
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Peter Wilson, Crédit Suisse AG, Research Division - Associate [13]
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Okay, maybe I misconstrued. So the comment in the presentation on July and August was actually meant to be a positive comment that July and August volumes were looking good?
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Michael Kane, Boral Limited - CEO, MD & Director [14]
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Okay, well maybe we send it to Ros?
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Yuen Ling Ng, Boral Limited - Group President Ventures & CFO [15]
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Well, I think the comment really refers to that. We obviously now had July's trading so that's taken into consideration when we give that broader outlook for 2020. And obviously, we want to point to the industry concrete demand estimated to be declined by 2%. We did talk about New South Wales, do expect that to decline further more than the 2%. And as you know that we have a very big waiting in New South Wales. So overall, that will impact and that's also in our guidance.
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Andrew Geoffrey Scott, Morgan Stanley, Research Division - Executive Director [16]
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It's Andrew Scott from Morgan Stanley. Just a couple on the U.S. if I can, and I'll come back to the transaction. So maybe for David, just if you could talk about the Fly Ash there. You -- there were information where you've got storage up and running now where Montour is running, you've got imports working. So first of all, Mike mentioned Navajo coming off later this year. Can you talk about confidence on getting volumes to grow in FY '20? And then secondly, as the -- as we are proving up those various sources of supply, how is the margin stacking up? Do we need more price to maintain margins or these alternative sources of supply coming in at similar margin levels?
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David Mariner, Boral Limited - President & CEO of Boral Industries Inc [17]
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So on the first one, we're confident that our volumes will grow next year even though we will be paid for the half year. So not only it's going to close above midyear, so 400,000 tons in total per annum. So we've got a headwind of about 200 overcome. And I would put that in context of this year, we had about 0.5 million tons of headwind to overcome from the full year effect of the Texas closures as well as one that came through this year. And we were close to breaking even on volume year-on-year. So I think we've done a good job of adding and bolstering volumes throughout the course of this year, almost getting back to where we were last year but not quite. And this upcoming year, the headwind is not nearly as great and so we're pretty comfortable and confident that those initiatives that have already come through and those that we're working on will carry us through at least FY '20. On the second piece around the margins, we -- I've said it before and we continually strive to bring on new volume at roughly the same margins that we've experienced in the past. And so what does that mean in the grand scheme of things? Last year, we had about an 11% rise in price, and that was needed in order to execute the strategic projects when you've got larger and broader geographic expansion, additional logistics costs, et cetera, et cetera. So we've been -- we're pretty comfortable that we've been -- we work well in order to maintain our margin profile albeit with bringing on additional strategic work. And as we move forward into next year, we do anticipate pricing to be similar, may be not as high as 11% but strong pricing, and then it'll underpin the further strategic work that we've got going on right now.
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Andrew Geoffrey Scott, Morgan Stanley, Research Division - Executive Director [18]
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And just a couple on the transaction. Ros, first of all, leverage kicks up towards 2.5x. We're probably there or thereabouts after Headwaters, but this time we're going to have a declining earnings profile. Can you talk about the pace at which you see that coming through? And do I take Mike's comments earlier about the portfolio reshaping largely done to mean there aren't any further divestments at this stage?
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Yuen Ling Ng, Boral Limited - Group President Ventures & CFO [19]
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Well, as just commenting on the balance sheet. Obviously, we see levels quite a bit for this year in terms of FY '19 with the sales that we've spoken about and the Middle East sale will continue to have a positive impact in terms of our leverage. In considering also taking into account our outlook that we've just spoken about, where we'll still be within the credit metrics that we sized in particular similar to Headwaters where the net debt-to-EBITDA, 2.5x -- of the low 2.5x even taking into account our outlook statement as well as our gearing, which will still be maintained around 30%. So -- and again, taking into account the outlook. As Mike mentioned, look, a couple of years out, we might have the opportunity to continue to exit from the bricks business in the U.S. in particular so that will help with the balance sheet. And as we going to full swing with the new deal and with Australia coming in 100% and the joint venture growing the joint venture, that's going to be very helpful going forward to continue to delever the balance sheet beyond 2020.
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Andrew Geoffrey Scott, Morgan Stanley, Research Division - Executive Director [20]
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And last one for me. May be Mike you talked the whole way through the Knauf process about the strength of Boral's bargaining position. You basically had a for-sale here in Australia and sub-6x EBITDA looks like a pretty good transaction. I guess I just struggled to understand why Knauf gets to buyback, gets that option at the same rate. It would seem to belie that the strength of your position there.
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Michael Kane, Boral Limited - CEO, MD & Director [21]
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So from our perspective, in the fullness of time, in the long run, it's much better to have all of our gypsum assets in the same vehicle to make sure -- there's an issue around the IP and when the IP exclusively expires, and it -- we've arranged it so that it expires at the end of the option period. It was supposed to expire slightly earlier. We extended it with these negotiations. So my view and the view of the team is that this business -- the business is better off connected to the Asian business so that you never have to worry about a -- having an isolated asset that doesn't have access to IP and technology improvements. So that's the first driver. It was very clear based on the regulatory results when Knauf went to close on the USG deal that they were told they could not own both. And so a combination needed to be made. This is exactly the same structure that we had in the old Lafarge days, where in Lafarge competed against us in Australia and we were joint venture partners in Asia. So for a period of time, as we've described it, that 5-year period, we don't think that's going to be a negative factor. We see it frankly as a positive factor because we'll get the benefit of the earnings through that period of time. But in the long run, there are some implications for perhaps staying out of the joint venture, which means we have to make additional investments in R&D that would be difficult to support based on 3 plants in Australia. So that's our thinking. Clearly, to get the deal, we got -- we basically said we have to have a discount for a couple of reasons. One, because we were in a position to be able to deliver the solution to their problem; but two, looking at the housing decline in Australia, we're well aware that we expect some diminishing returns on the Australian business in the interim, but not sufficient so that at the price we pay, it would hurt the acquisition. So it was a little complicated. We had a similar issue in the Middle East, where we divested the businesses in the Middle East to them because they have a competing network in the Middle East. But within the area of Asia Pacific region, there is no -- there'll be no competition from Knauf businesses against our businesses. And we picked up some other positive things that we don't even mention in the -- we're going to have distribution arrangements for their insulation, and what am I missing, and the ceiling tiles. So they have -- in the process of acquiring Armstrong ceiling tile on a global basis, and they're picking up the Asia position. So we have the access to these key lines which tend to be sold within our channels, and Armstrong is the leading ceiling tile provider in the world and Knauf Insulation is a world leader as well. So there are lot of reasons for the way the package was put together, and it can suggest you why it took so long to negotiate this deal.
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Andrew Geoffrey Scott, Morgan Stanley, Research Division - Executive Director [22]
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Got it. And it's our last one but just very quickly. Sheetrock 2. Thoughts on whether that's going to be commercially attractive?
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Michael Kane, Boral Limited - CEO, MD & Director [23]
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We believe it is, and we've got test work going on right now to think about and as well as...
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Yuen Ling Ng, Boral Limited - Group President Ventures & CFO [24]
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(inaudible)
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Michael Kane, Boral Limited - CEO, MD & Director [25]
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What -- so we're looking at it in 2 stages. One, possible formulation changes that could improve all plants based on some of the discoveries in the Sheetrock 2, and then we're looking at delivering the full portfolio of changes in 1 or 2 plants and to test out how that works and how best to market it. So that work is continuing and we don't expect that to slow down.
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Peter Steyn, Macquarie Research - Analyst [26]
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Peter Steyn from Macquarie. Just a quick hone in on your Australian environment and particularly the New South Wales infrastructure market. There's obviously been some delays in some projects coming through there. But I'm just interested to understand whether you have not won some business that was important to hold up the economics of that operation. And then you also very briefly spoke about South East Queensland. Concrete volumes, steel volumes, if we can just get a bit of detail on those two.
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Michael Kane, Boral Limited - CEO, MD & Director [27]
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And I'll ask Wayne to comment more specifically on it. We're still getting the share of billable work that we've been getting all along. So we're -- we haven't lost pace in terms of -- and I guess based on some of the comments, it's about $1 billion worth of work that we're bidding on right now but I'll let Wayne talk about it, and specifically he wants to understand New South Wales and what's going on inside that.
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Wayne Manners, Boral Limited - Executive General Manager for Western Australia [28]
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Sure. So thanks for the question. In New South Wales, the answer is no. We haven't lost any big projects we're expecting. We articulated back in May, I think, that there was a bit of a gap coming up in New South Wales' major projects. But ahead of this is all the stuff coming up in Western Sydney Airport. We're actively involved in discussions on -- with our SROs on Snowy Hydro and the like. There's a number of big projects coming through in New South Wales. There was always going to be a bit of a hiatus, if you like, in FY '20 and that's what we're seeing. With respect to Queensland and concrete volumes in particular, a lot of slow down there, a lot of project delays and the like which we all saw pre-election and those sort of things into Queensland whether it be detached multi-res, non-residential, the whole lot, that certainly we're seeing some of that looking to improve going forward. But in FY '20, we are seeing both detached and multiresidential still declining in Queensland, but -- so that's -- hence the Queensland result. But certainly New South Wales, we see this is just a short-term delay in major project activity. As Mike rightly said, lot of tendering activity going on right now. The pipeline going forward is incredibly strong.