Channel Infrastructure NZ (NZX:CHI) Q4 2023 Earnings Call

0:00 Thank you for standing by and welcome to the Channel New Zealand 2023 annual results. All participants are in a listen only mode. There will be a presentation followed by a question and answer session. If you wish to ask a question, you will need to press the star key followed by the number one on your telephone keypad. I would now like to hand the conference over to Mr. Rob Buchanan, Chief Executive. Please go ahead.

0:28 Good morning everyone and thank you for joining us as we run through our 2023 financial and operational results, 2024 guidance and strategic priorities following Channel Infrastructure's strategic refresh last year. I'm joined here today by Alexa Preston, our Chief Financial Officer. Today I will speak to the presentation we disclosed on the NZX this morning. Before we begin, I would just draw your attention to the usual and important disclaimers on slide two. Turning to slide three. First, I will cover off our company highlights and the operational update before Alexa covers the financials in more detail. I'll then take you through our strategic highlights and our refresh strategy before we have some time for questions at the end.

1:16 Let's start with our financial highlights on slide four. In our first full year of import terminal operations, we produced a strong financial result. Revenue was just above the top end of guidance, and EBITDA from continuing operations was $87.2 million, at the top end of guidance we provided to the market in August. Reflecting the high EBITDA to free cash flow generation or conversion of our business model, normalised free cash flow was $61.8 million, again at the top of the August guidance range. In addition to our total ordinary dividend for the year of 10.5 cents, today we have also announced a special dividend of 1.5 cents per share. This reflects a combination of factors. The conversion project is now substantially complete, and we are confident that we can manage the rest of the terminal upgrades within our existing conversion budget.

2:12 The board's confidence in our company's outlook, including a free cash flow yield that is substantially higher than our dividend yield, and a determination that we will be disciplined about the use of shareholders' capital. Lastly, we needed to make sure that we balanced the quantum of the special dividend against the developing pipeline of growth projects with strong returns. I'm proud of all we've achieved in the past year, and slide five outlines some of these achievements. In short, throughput was slightly higher than the advisory forecast we provided you this time last year, Jet fuel demand is almost at pre-COVID levels, which our forecast had for 2026, and revenue exceeded table pay levels, which we thought would happen in 2025.

2:59 As we said in the half-year results, the conversion project is substantially complete. Focus is now on completing the firefighting upgrades this year and bundling upgrade work, which the team will continue working on until around 2027. A key highlight for the year is a comprehensive process the board and management went through refreshing our strategy, which we presented to the market in October. In particular, it was important for us to have a detailed understanding of the most likely case for the aviation transition, and we outlined this to you in our views around the potential for SAF to assist in decarbonising aviation. Another foundational component to the strategy is our commitment to achieving operational excellence, through our ambition to be a world-class infrastructure operator.

3:45 This is critical in not only ensuring our assets are reliable and resilient to keep New Zealand moving, but we believe it will unlock further growth potential for the company. And as part of this, we continue to evaluate additional growth opportunities around existing and new storage at our Marsden Point site. Moving now to discuss safety on slide six. Everyone home, safely, every day remains our top priority and is the foundation of our world-class ambition. During 2023, we partnered with Safety Futures to implement their Safety Leadership, Supervisors and Management programme across the frontline leadership team. This programme, and our wider focus on-site, is about empowering our people to take personal responsibility for the environment we work in.

4:35 We also completed an independent review of site safety management systems and have begun tracking what we see as world-class lead safety indicators across the site. We had no lost time injuries in 2023 and one process incident which we discussed in the half year results. Moving to slide seven. The shutdown, conversion and workforce transition are now essentially complete. We now have some terminal upgrades to finish. The key items in these terminal upgrades are the remaining firefighting upgrade work which started in 2023 and will finish during this year and the remaining bund upgrade work which will continue out to 2027. We have now largely completed construction of the first round of bund upgrades for the first forward of 10 compounds and engineering of the balance of work.

5:25 We now have much more insight on the cost to complete this work through to 2027. We've had questions from investors around the potential to release conversion provisions over the course of the year And noting the significant increase seen in construction and civil costs since the original conversion budget was set in 2021, and the information we now have on completion of the first round of bund upgrades, we believe it's important to retain the full amount of the conversion provision through to completion of the terminal upgrades. It might be worth pointing out here that we have seen a $5 million increase in the demolition provision, reflecting an updated cost estimate. These costs are currently assumed to occur sometime between 2032 and 2034 and we are still to re-evaluate the amount of the provision based on the outcome of the SEATRA sale.

6:15 Moving to slide 8. As I mentioned before, throughput for 2023 was higher than the advisory outlook. We continue to see throughput in our facility increase up 19% year-on-year. diesel and petrol volumes remain stable. However, we continue to see strong post-COVID recovery in jet fuel volumes. In fact, as you can see on the chart at the top, volumes in Q4 2023 are almost back at pre-COVID levels, with Q4 total volumes some 93% and jet fuel volumes from Q4 2019. Advisories spent some time working through their outlook and assumptions at our Analyst Day presentation, and they remain comfortable with their long-term outlook.

7:00 During the year, we made significant progress towards freeing up further land for repurposing opportunities, such as the Portaskew project, as outlined on Flight 9. Last year, SEADRA acquired an option to purchase some of the permanently decommissioned assets at Marsden Point. They have invested significant time and resource in an ongoing diligence process, have now submitted to channel a health, safety and environment plan for the deconstruction work. Before the end of July 2024, they will need to confirm whether they plan to proceed with the purchase of the assets. We continue to progress other asset sales with potentially interested parties. As we discussed at our analyst day in October, we also need to ensure we maximise the value of our highly strategic landholding.

7:48 As such, we are currently developing a site plan to ensure we have the highest value and best use plan for our land going forward. We will keep you updated as this work progresses. Channel is firmly focused on the role it can play to help New Zealand's transition to a low-carbon economy. Through the transition, we set ourselves three transition and climate-related targets, which you can see here on slide two. Our priority was to ensure a just transition, We are pleased to report that we exceeded our ambitious 90% target with 99% of our people impacted by the change supported into their next opportunity within six months of leaving the business. We are on target to achieve our goal of net zero scope one and two emissions by 2030.

8:34 We continue to prioritise efforts to reduce our emissions and in 2023 We entered into a new long-term fixed price variable volume contract for the supply of renewable electricity from January 2024, with energy attributes certificates attached. In respect of our third target, which relates to customer Scope 3 emissions, our infrastructure is capable of handling lower carbon fuels, including second generation bio and sustainable aviation fuels. We want to see our infrastructure used to support the decarbonisation of the transport sector, and to help reduce customers' Scope 3 emissions by 2030. With that, I will hand over to Alexa.

9:13 Thanks, Rob. Looking at the highlights on slide 12, 2023 was our first full financial year of operation as an import terminal, with FY22 only including nine months of import terminal operations. We have delivered a strong set of results at the top end of our August guidance, Revenue of $130.7 million with terminal fees exceeding table pay level and private storage revenue increasing. EBITDA of $87.2 million and normalized free cash flow of $61.8 million represented a free cash flow yield of 11.3% and an EBITDA free cash flow conversion of 71%. A total dividend for 2023 of 12 cents per share, including a 1.5 cent per share special dividend, which represents a dividend yield of 8.3%.

10:11 Turning now to the P&L on slide 13. As you can see, our EBITDA margin increased from 65% in FY22 to 67% in 2023, a testament to our disciplined approach to cost management. Our increased finance costs of $17.6 million reflect higher debt as a result of gross capital expenditure and conversion costs. Finance costs also included $1.3 million of non-cash accelerated amortization relating to the subordinated notes which were exchanged in the November retail bond issue. Let's take a closer look at revenue on slide 14.

10:56 We saw revenue increase from $88.2 million for the nine months of operations in FY22 to $130.7 million in 2023. The PPI adjustment for 2023 was 6.3%, and this had around $6 million benefit on terminal and private storage fees. The contribution from private and additional storage increased to $11.1 million in 2023. with the additional 45 million litres of storage capacity that came into service in Q3. I'd like to draw your attention to the chart on the bottom left of this slide, which shows the profile of our contracted revenue. Importantly, the chart receives no additional growth opportunities and does not take into consideration future PPI adjustments.

11:46 It also exposed non-contracted revenues, including those associated with our fuel testing business, ITL. Fixed terminal fees are represented by the solid navy block and variable terminal fees in light blue. The variable fees are derived using the advisory forecast volume, which actual volumes have been tracking quite closely to date. Private storage volumes decline in mid-2027 in line with the expiry of the initial term of the storage contract we announced in 2021. However, at this stage, we see no reason why this contract won't be renewed. Moving on to operating costs on slide 15. Electricity costs make up approximately a quarter of our OPEX.

12:33 We saw an increase in needs in the second half of 2023 versus the same period last year, reflecting higher variable supply costs, partly offset by lower transition costs, which were reset in April 2023, reflecting the reduced electricity needs of the import terminal business. The increase in other costs half on half reflects the timing of spend. On slide 16, we have outlined our key balance sheet metrics. Nested at 31 December was $315 million. Leverage sits at 3.6 times EBITDA, around the middle of our targeted range of three to four times. And we continue to target credit metrics consistent with the shadow of triple B plus credit rating.

13:21 In December last year, Mobile sold down its shareholding and channel infrastructure, which resulted in us forfeiting our remaining imputation credits of around $3.9 million, given we no longer meet the 66% shareholder continuity threshold. Looking forward, our interest rate profile is approximately 80% fixed, balancing interest rate certainty against the opportunity to take advantage of variable interest rates as they move lower. The waterfall chart on slide 17 shows our key cash flow movements across the year. Our strong operating cash flow of $90 million fully funded the 2023 conversion costs and capex, including growth capex.

14:06 The board declared an unimputed ordinary final dividend of 6.3 cents per share and a special dividend of 1.5 cents per share, bringing the total 2023 dividend to 12 cents per share. a dividend yield of 8.3%. The special dividend reflects the high cash flow generation of the business, which is sufficient to fund the remaining terminal upgrade work, balanced against the near-term pipeline of growth projects. On slide 18, we've broken out our capital expenditure. Given the critical role that channels infrastructure will play in fueling New Zealand's future for the long term, it is critical that we continue investing to maintain our assets. We have a long-term asset management plan to ensure we make the right amount of investment and smooth that investment profile as much as possible.

14:58 Same business capex fell year on year, reflecting the tank conversion work and fund upgrades that were categorised as import terminal capex in the prior financial year before conversion. This is partially offset by an increase in tank maintenance before tank turnarounds in 2023, compared with three in the year prior. The majority of the private storage works were invested in 2023, which saw growth capex increase from $15.8 million to $30.6 million. Turning now to our 2024 guidance and outlook on slide 19. Channel infrastructure expects 2024 EBITDA from continued operations to be in the range of $91 to $95 million.

15:47 Revenue will benefit from continued growth in jet fuel volumes, the PPI escalator of 2.1%, and a full year contribution from the private storage volume commissioned in Q3 2023, and the new private storage contract we announced at Investor Day. 2024 will also be the last full year of Wiri lease revenue. It is expected that operating expenditure for 2024 will continue at 2023 level, reflecting the inflationary environment and investment in world-class capabilities of around 1% of operating expenditure, as indicated at our invest today, offset by net electricity cost savings. Normalised free cash flow for 2024 is expected in the range of $62 to $66 billion.

16:38 This reflects higher stay-in-business capital expenditure of between $11 to $12 million, compared to $10.5 million in 2023, as we have several significant tank turnarounds to complete this year, in line with our long-term asset management plan. Moving forward, we will be disclosing stay-in-business CapEx guidance as a percentage of revenue to take into account the expanding asset base as we execute on our growth strategy. Shareholders can refer to the board approved dividend policy and free cash flow guidance to infer a potential dividend range for 2024.

17:14 Thanks Alexa. Let's now move on to strategic highlights in our refresh strategy. I'm incredibly proud that we achieved all we set out to do at the beginning of the year. On the left hand side of the table on slide 21 are the five priorities we set ourselves for 2023. and on the right, how we had delivered on those. I won't spend time on this slide as we have or will speak to all these points elsewhere in this presentation. Now would be a good time, however, to recognise the achievements and efforts of the team at Channel Infrastructure who have successfully executed and delivered on our 2023 priorities. Back in October last year, we outlined our refreshed company strategy to you.

18:00 For completeness, we have included our strategy on a page on this slide, page 22. For those of you who went at the Analyst Day and do want more detail on this, all the webcasts are available on our website. Being New Zealand's infrastructure partner of choice, growing through supporting the energy transition while maintaining a more sustainable future will remain at the core of our disciplined focus on strategy execution over the coming years. A key part of our refresh strategy is the ambition to become a world-class in all that we do. Looking at slide 23, I want to reflect on the progress we have made towards becoming world-class. Our infrastructure will be required for decades to come to support long-term fuel demand, and ensuring we are well set up to make the most of these opportunities drives our ambition to become a world-class fuels infrastructure operator.

18:52 Building world-class capabilities is key to making sure our operations and assets are formed efficiently to meet current and future fuel demand. Furthermore, by demonstrating these capabilities, we will build credibility amongst our customers and other stakeholders, allowing Channel to play a broader role beyond Marston Point in the future. During 2023, we have already made good progress on improvements in a number of areas. Increasing our customer focus, including running regular customer satisfaction surveys. Implementing a safety culture programme to embed a high standard of operational discipline required for terminal operation. And completing our first long-term strategic asset management plan. And lifting employee engagement through our regular Your Voice engagement process.

19:40 The remaining work in front of us includes a focus on operational efficiency and discipline, asset renewal and upgrade, streamlining our procedures and training, and lifting resourcing capabilities in key areas. On slide 24, we look at how we are progressing some of the multiple brownfield growth opportunities available at Marsden Point as we look to support fuel resilience in New Zealand. In 2023, we submitted to the government's Longshorewood Diesel Reserve tender. In addition, we continue to look for other opportunities to assist our customers with their supply chain resilience. opportunities that allow us to repurpose the approximate 400 million litres of unutilised storage capacity we still have at Marsden Point. Any new storage tank conversion will take around two years, in line with the private storage conversion.

20:31 As we explore how Channel can support the decarbonisation pathway for aviation, our work with FortisGear continued. Work with FortisGear was focused this year on developing the commercial model for the project, including how Channel will play its part. In line with our ambition for world-class operations and drive towards a high-performance culture, we have set ourselves a number of measures of delivery against our refresh strategy, which are listed on slide 25. This will create a sharp focus on delivery and drive outcomes which we firmly believe will create value for our shareholders, customers, the local community, and New Zealand. So in summary, these are a great set of financial results, and with our confidence about the future, the board has today declared a special dividend We have a strong and exciting future ahead and a track record on delivery.

21:22 And with that, I'd now like to take the opportunity to take some questions from those on the line. Thank you. If you wish to ask a question, please press star 1 on your telephone and wait for your name to be announced. If you wish to cancel your request, please press star 2. If you're on a speakerphone, please pick up the handset to ask your question. Your first question comes from Andrew Harvey Green with Southside Bar. Please go ahead.

21:50 I'm wondering, Rob and Alyssa, there's a couple of questions for me. First one just around, I guess, the special dividends. I guess an interesting choice from the board, I thought, just given there isn't anything particularly operationally unusual and there's no sort of no unusual cash flows coming in and it feels very much like a business as usual type result. Was there any thought, I guess, or does it point to the payout ratio potentially being too low?

22:22 Good question, Andrew. So the special dividend was really a function of a number of factors. One of those is we still do have substantial upgrades to come over the next three years. We need to make sure we fund those. The other is we're conscious that this is the last year of very less revenue and of course that drops off during next year. But I think more importantly we do have a developing pipeline of growth opportunities which have attractive returns in the business. And I think the board was very focused on being disciplined with shareholders capital and returning it where there's an opportunity to do so. but we're also cognizant of being sure we're in a position to be able to execute on those opportunities over the course of the year.

23:20 Okay, so maybe putting the question a slightly different way, if we're in the same position next year and had a solid result come through, but again, there's nothing near term where that cash is needed, can we potentially expect more special dividends to come?

23:38 Well, look, I would never get ahead of the board on that one, Andrew, but I think you can take from us that we've got a very disciplined approach to utilising shareholders' capital, and so we'll look at the situation when we're there next year.

23:56 Yep, OK, thanks. Next question is just around the timing of the tender outcome with the government. Have you got any sense of when you might hear from them in terms of that?

24:10 Yeah, I prefer not to comment specifically on the tender process. I think what I'd say is across both government and customer storage opportunities, particularly with increasing jet demand over the course of the last 12 months, as I said before, we're seeing a growing pipeline of reinvestment opportunities with attractive returns. So I'll probably leave it at that, if that's OK.

24:40 Yep, sure, OK. And next question is just around the stay in business capex guidance and I guess it sort of sets towards the top end of that long term range again. Is there any requirement or I mean that's, you know, you're still comfortable I guess with that long term capex guidance range and we can see it moving towards I guess the bottom end to even out the last couple of years and FY24.

25:06 Thanks Andrew. I mean I think we were very clear about the long-term profile of that capex. We do have a long-term asset management plan. There are a number of tank turnarounds that are required in the nearer term and so as we said then, we do expect this nearer term number to reflect more this FY22 level, FY24 level. What I would say is that the growth plan would see us with significantly greater asset base which would obviously have an impact on that same business capex number.

25:39 I think the other thing, Andrew, is with the Asset Management Plan, we've now got a very good understanding of the specific turnarounds we need to do every given year. And I think what you're seeing over the course of this year are some relatively big projects in that space.

25:59 Yes, okay. And just last question from me. I'm assuming the FY24 guidance is based on the volumes from something actually there's been a hail unto me that what would even your name is and you're able to just remind us exactly what theory for 24 volume numbers are and it's my 24 volumes that envisaged race forecaster around that 3.4 billion level okay that's great thank you that's all from me Once again, if you wish to ask a question, please press star 1 on your telephone and wait for your name to be announced. We'll now pause a short moment to allow questions to register. Your next question comes from Cameron Parker with Craig's Investment Partners.

26:49 Please go ahead.

26:52 Morning, guys. Just the one question from me really around your site plan. I was just wondering if you could give or provide some more information on the types of things you're considering there over what sort of timeframes and how that might come together and how you're evaluating options within there.

27:11 Yeah, good question. So that's a piece of work we've got underway and I hope to be able to talk more about it later this year. The unique opportunity we have on the site is obviously the very long-dated zoning and resource consent and There are a range of opportunities from renewable fuels that we've spoken about, renewable energy, energy storage more broadly, and obviously we've got the solar farm project still on the books. So we need to weigh all those things up. You are, in some cases, looking ahead five or 10 years. So it does bias you towards trying to have as much optionality as you can.

27:58 but hopefully that gives you a bit of a sense of the factors that we're thinking about there.

28:03 Great, thanks for that. Just to clarify, that solar farm, that's still an active opportunity within yourselves, and are you hearing, you know, it's pretty tough going in terms of a high-cost environment to build any sort of infrastructure at the moment. What are you hearing from the market around solar development and the role that you would play in it?

28:27 Yeah, well, look, aligned with what you just said there, Cam, I think that's probably what I would say as well. I think the one thing that does give us pause is that solar farm is on buffer land that has the industrial zoning rather than farmland where solar farms are usually built. And that's why we're going through the process of building a site plan and understanding what the potential value for the land is. because as soon as you build a solar farm, you're then occupying that land for the next 60 years, and we need to ask ourselves whether that's the highest and best use. It may very well be, but we're just going through that process. Yeah, okay.

29:12 That's great. Thanks, Rob. Thanks, Alexa. Your next question comes from Neville Glewis with Jarden. Please go ahead.

29:21 Good morning, team. Two reasonably simple questions for me. You mentioned the capex guidance, perhaps becoming more of a percentage revenue approach. I'm just reflecting on the private storage deals, which obviously have expanded the asset base, but those involve very little capex. I just wonder if you think the future deals might involve, have more impact on BAU, capex than perhaps the previous deals did.

29:51 Thanks, Neville. Look, I think we have now a track record of what conversions cost and we're pretty clear about the cost of those and have been very transparent. The movement to a percentage of revenue allows us to also take into consideration some of the things we've seen in those projects which is construction cost inflation but obviously we would adjust the percentage of revenue to reflect what we expect in the way of CapEx and so in short the answer to your question is no we're not expecting a significant increase and the costs associated with those types of conversion projects.

30:29 Yeah, I'll probably just add to that, Neville. So nothing's changed around the asset management plan and the numbers that we articulated to you guys in October. I think we're just cognizant that, you know, there are opportunities to grow the business and we execute on those. That will add to our maintenance, as you would expect.

30:50 Great, thank you. And the other question really was just, Obviously, there was some phasing differences in OPEX during the course of 23. Can you give us some sort of guidance as first half, second half phasing for OPEX, whether to see anything unusual there for 24?

31:07 2024, we're expecting at this stage a smoother profile than 23. So no, I don't think that pattern would repeat.

31:18 Perfect. That's all from me. Thank you. Your next question comes from Elizabeth Andre with Macquarie. Please go ahead. Good morning team. Just one question on the cents per litre throughput revenue. There has been some volatility in this number. Do you think ancillary revenues have fully normalised and that the second half 23 figure of around 1.75 cents per litre is an appropriate 2024 one, right?

31:48 Thanks Elizabeth. There's a couple of parts to the response to that question. The first is around what our customers will do with their own supply chains and how they choose to manage those. As you know, we don't have a part to play in that, and so we can only use trends and estimates to infer what ship movements and volumes will be. But looking forward, based on what we know today, that would be an appropriate run rate

32:23 to use. So one of the challenges there is, for example, the conflict in the Red Sea has changed the nature of the vessels that are available in the Pacific. And so we saw over the second half of last year, particularly towards the back end, visits from the larger LR2 class vessels, so the larger fuel vessels. and we understand that the availability of those might be more constrained this year due to some of those factors and so you might see some of the EMR class vessels. So that's sort of an example of something we don't really control but we will see the impact of. Sure, great, thank you. Your next question comes from David Oxley with ACC. Please go ahead.

33:10 Yeah, good morning. One quick question, if I may. About a year ago in your FY22 result pack, you showed guidance with regard to your energy and utility costs with a split between usage and transmission and distribution. You were guiding at that point to transmission and distribution costs of $4 million. Did that number turn out to be accurate in FY23? Thanks, David.

33:38 In FY23 the number was slightly lower but we have had notice for FY24 and that guidance would apply.

33:49 Right, okay, thank you. And just as a follow-up, given the electricity cost savings we were expecting to come through in FY24, and they appear to have been offset or eaten up by inflationary pressures elsewhere, can you just give a bit of colour around where exactly in your various OPEX buckets the cost inflation is likely to be seen in 24?

34:14 Sure thing. So as we said in Invest Today, we are investing 1% of our OPEX in world-class capability, and that's obviously critical to deliver on our strategy. Some of the other areas where we've seen cost pressure are general inflation across the cost base in the likes of insurance rates and site security, and as you can probably anticipate in FY24, we're likely to see a bit of labour cost inflation as well.

34:48 Okay, thank you very much. That is all the time we have for questions today. I'll now hand back to Mr. Buchanan for closing remarks.

34:59 Well, thank you very much, everyone, for dialing into the presentation. We're really optimistic about the year ahead. As you can see, we've got some interesting opportunities to execute on, whether it's the Ciagra transaction or the developing growth pipeline for the business, and we're really focused on delivering on our guidance. So thanks for your time. That does conclude our conference for today. Thank you for participating. You may now disconnect.