Earnings Transcript for 0019.HK - Q2 Fiscal Year 2020

Cindy Cheung: Good afternoon. Welcome to the Swire Pacific 2020 Interim Results Announcement Analyst Briefing Live Webcast. Thank you for joining us. May we first introduce our speakers for today

Merlin Swire: Okay. Well, welcome, everybody. Thank you for joining us. We appreciate your interest. We will try and run through our presentation relatively quickly, so we have time for questions. Well, I mean, the business environment in the first half was pretty unique and unusual. COVID-19 has obviously dominated everything. And for us, the decrease in oil demand has also been problematic for Swire Pacific Offshore. I mean I think the low point for us probably came in around mid-April, at the time when Cathay was carrying only 400 or 500 passengers a day as compared to its usual load of 100,000 passengers a day. And Cathay was not using a lot of fuel. And at that point, the oil price dropped from $70 at the start of the year to $20. It was not a comfortable position for us to be in. And the upshot of all of this, as you can see in your pack, is that we've reported an underlying loss for the first half of $5.4 billion and, on a recurring basis, a marginal loss, which perhaps is better than some of us might have feared given the extraordinary circumstances. Just a comparison of last year and this year with regard to exceptionals and impairments, we have taken another very big impairment on the SPO fleet. And you see here also our share of the impairments that Cathay Pacific has taken on some of its subsidiaries and in particular on 16 aircraft that it imagines will not be flying again. This contrasts quite sharply with last year where, if you recall, we booked a very large gain on the sale of Cityplaza Three and Four, which led to the very strong results last year. So it's been a very big swing. Well, this is our return on equity slide. It's not a very encouraging picture, obviously. And perhaps the only thing that I should draw attention to here is the pink bar in 2020, which is to say that we have at a statutory level reported a negative revaluation on our property portfolio for the first time over the last 10 years in terms of the interim. In total, that's a negative fair value adjustment of HKD 2.6 billion primarily driven by our Retail portfolio in the U.S. and in Hong Kong. In the U.S. particularly, we've been affected by an almost total shutdown locked down in Miami for much of the second quarter. In fact, our office portfolio in Hong Kong, valuations have remained remarkably robust. Okay. So in terms of the dividend, given the quality of our results and the significant uncertainties that we still face, we've considered it prudent to reduce the dividend. And you can see we've cut the dividend at the interim by about 48%. And in the context of our dividend policy, in the context of what our shareholders expect from Swire Pacific, this is a very painful decision, and it's one that is not taken lightly but we just feel it would have been imprudent to do otherwise. And we will see in March, when we come to look at the final dividend, what the situation is, what the outlook is. We hope things will be more optimistic, and we will be guided accordingly at that point. This slide just talks to the recurring underlying profit by division, and perhaps I'll just talk through the chart in the bottom right-hand corner. As you can see, quite a lot of variability between our different businesses. Property, 8% down versus prior year, that's primarily driven by weak retail in Hong Kong, which is, obviously, an important part of our business, and very poor results from our Hotel Division. Leaving that aside, I think in the circumstances, it's a rather encouraging result from our properties and reflects the quality of these assets. Cathay, well, the story is well covered over the last couple of days. It's obviously been a uniquely challenging and difficult time for Cathay. HAECO, you see there, we've reported a recurring profit increase in the first half. That was helped significantly by government support that we received in the U.S. -- for our U.S. business and, obviously, in Hong Kong, but there is something of a lag effect in terms of workload in that business. And we are seeing quite a decline in demand for HAECO services currently. Beverages has been the real standout. We've seen continued growth in both China -- in China and a solid performance in the U.S. The figure here is slightly misleading. It suggests a 26% increase in recurring underlying profit. That's largely a result of the fact that in the prior year, we had some one-off tax charges, which are not there in this half. But if one normalizes for that, as Pat will explain later, we've still seen profit growth on a recurring basis of 14% for our Beverage business, which is really outstanding given the circumstances that we've been facing. Marine Services, well, the first quarter started strongly with meaningful improvements over prior year, and we were on track to continue to head where we were hoping to, and then things were headed the other way in the second quarter. Trading & Industrial, some small numbers, but the business most affected by COVID there has been Swire Resources in Hong Kong. Well, in fact, there's not a great deal of change on this chart. On the Property side, we don't have anything new to announce from the first half, but we are still actively looking at opportunities in China and are confident with the quality of the pipeline there. I should say that really the big news for us and a big focus in the second quarter, as you can imagine, was the big recapitalization of Cathay Pacific. Swire Pacific participated as to HKD 5.3 billion having taken up our rights in the rights issue completely. But the full package was HKD 39 billion. And the goal was to put together a package big enough to give all investors confidence that it would see Cathay through this crisis, and I think we've achieved that. And I think the Hong Kong government, we're extremely grateful to them for stepping up in the way that they have. I think it's a recognition that the Hong Kong government has confidence in Cathay and sees that Cathay plays an absolutely critical role in Hong Kong and in the Hong Kong aviation hub. So notwithstanding the very, very difficult circumstances, we were relieved and pleased by the outcome of that recapitalization business. Under HAECO there, you'll see that we -- in March of the year, we completed a small investment in the U.S. That's an engine shop in Texas that services mainly narrow-body engines. It's an expansion of our global engine support business, and it's a recognition of the fact that more and more over time, engines are being overhauled while still on the wing, or they're taken off the wing and service near to the airframe rather than being transferred all over the world to shops such as the ones we have in Hong Kong and China. So we think that's a growth business, and that acquisition has gone smoothly, and the integration has been good, COVID notwithstanding. It's not a huge investment, but I think it's significant. If you look at the bottom of this slide, we completed an investment in Columbia China Healthcare. This is our first investment in the health care sector. And we've taken a 13% stake in this business. It's a business that is focused exclusively on the Yangtze River Delta. It owns hospitals and clinics and elderly care homes, and it has some very strong partners. So the other shareholders of Columbia, the U.S. health care firm, and Temasek who have a very big stake in the business. And we're feeling excited by this investment, and we're keen to do more in the health care space. We see it as a growth area in China. We want to be part of that. And we think our skills, our brand, our long-term approach are well suited to that sector. Okay. Well, I think I'll pause there and hand over to Michelle, who will take us through the first half financial summary.

Michelle Low: Thank you, Merlin. This schedule appear to be a relatively busy schedule. But if my -- I may just draw 2 points. The revenue cash generated from operations both declined, and we all know it's because of the COVID-19. And for the revenue, particularly for HAECO business, and also the Retail business at Swire Resources have been very much affected alongside with some drop in the hotel business as well. Worth noting is the net debt. The net debt increased marginally by $2.6 billion to $49.2 billion -- million -- billion. And the gearing ratio as at June end was 15.6% and -- which, in fact, is a relatively strong financial position, which I'll run through later in terms of some other liquidity measures. And the equity attributable to the company's shareholders dropped by 5% because of the some of recording loss in the year. This is just a waterfall chart showing the movements of the profit number across the divisions, which Merlin has broadly highlighted. For the net debt, we have a $2.6 billion increase during the period. And the cash from operations, $5.2 billion, which, in fact, is lower than last year. And -- but in terms of disposal proceed, unlike the same period last year, we have significant proceeds from the disposal of Cityplazas Three and Four. And this time, the proceed is marginally relating to some sale of the fixed assets, plant and equipment. For the CapEx, we invested $2.4 billion. And as Merlin mentioned, we have invested in the health care business and also invested in a small aircraft engineering business in U.S.A. The tax paid is a relatively high number because there have been some tax deferral from the Mainland revenue from last year and paid this period. For the gearing ratio number, at the end of the period, it's 15.6%. And as we've seen through the period from 2016, we have continuing to improve our gearing ratio with the help of disposal of some of our non-core assets. And we'll continue to manage the gearing ratio way forward. The cash interest cover, in fact, is not very representative because we have seen some drop in the EBITDA number this year and this period, so we have 1x cover. Weighted average cost of debt have marginally decreased to 3.3% because we have seen lower interest rates during the period particularly relating to the HIBOR. And we have also placed $500 million debts for the private -- for the public bond, which was low at 3% earlier this year. The number I'd like to draw to your attention is the group committed facility number of $58 billion, which, as you compare to the end of last year, we have increased quite substantial liquidity by increasing the various bond effects -- bond and also the bilateral loan facilities. And we also have been maintaining quite some cash. In fact, out of the $22 billion, $11 billion relating to Swire Properties, which are the proceeds from the property asset disposal. And subsequent to June, we have paid our subscription money for the right issuance for Cathay of $5.3 billion. And in fact, we also have paid down some of the facilities relating to the second half number, which are the $10.8 billion. In fact, we have already repaid by now. So we are expecting that we'll continue to keep relatively healthy liquidity by trying to pick the good opportunities of the relatively low interest rate environment by entering into more facilities or private placement or public issuance. And that maturity profile is relatively well spread. A snapshot of the capital allocation commitment. And for the Property, we have around $16 billion. And these are investments, which, in fact, we have already sort of made public. There's no new investment that we have been making in the first half. And they relate to 2 type of place. They relate to Qiantan in Shanghai and also the construction site next to the 28 Hennessy Road. For HAECO, included in the $6 billion number, there is a -- the Xiamen airport relocation commitment there. And Beverages continue to invest in their production equipment and their marketing facilities as well. And with that, I'll just also very quickly run through the overview for the Property Division. The Property, in fact, will be doing their own analyst briefing later. And here, I'll just give a very quick run through. Underlying profit for the first half significantly dropped compared to the first half of 2019 because, last year, we had the disposal profit of Cityplaza Three and Four. But pleasingly, for the investment property, the recurring profit, we have slightly increased with the help of trying to contain operating cost and also lower finance charges. And we have been continuing working with the tenants by giving a rental relief during the period as well. And for offices, the gross rental income has increased, and also there have been positive rental reversion. China, Chinese Mainland, the gross rental income from retail properties have been affected by COVID-19. But, in fact, what we have seen, there have been very, very strong recovery since March. And -- but overall, for the period, we have recorded lower Retail sales and also continuing some rental concessions for some particular tenants. Property trading, as Merlin mentioned, we have a project in Singapore that -- we are marketing that project. And there is also some residential units in Miami which we are selling. And in fact, that have been relatively slow. Hotel has been performing badly because of the COVID-19 with low -- very low occupancy rate. Pleasingly, we disposed of 2 office buildings in July. And the valuation of investment property has recorded a drop during the period. So this is the waterfall chart relating to Property, which is relatively self-explanatory. The pipeline of future completion, we'll be seeing the completion of Taikoo Place Two in 2022. And also, we'll be seeing Qiantan completion this year. And also in China, there will be the Sanlitun West will be completed in -- further on. And the capital commitment, I have mentioned, is around $16 billion, which relate to -- mostly relating to Hong Kong and partly relating to Qiantan in China. For Aviation, if I may pass to...

Merlin Swire: To me, I think, first, yes.

Michelle Low: Yes.

Merlin Swire: Okay. Well, thank you, Michelle. I mean on Aviation -- I'll talk about HAECO in a moment. As you can see, the HAECO results remarkably stable year-on-year in the first half. And we at Swire Pacific have taken a very big hit with regard to our share in Cathay Pacific's losses, both their recurring losses and some of the impairments that they've taken. But I'll pass to Pat to talk in more detail about the Cathay situation.

Patrick Healy: Thanks. Yes. So as we reported yesterday, obviously, the first six months of this year have really been the most challenging in the history of Cathay Pacific. COVID-19 has really decimated the entire industry globally. Passenger revenue dropped clearly very precipitously. In certain months, at the low point, we were operating at only 1% or 2% of prior year levels, obviously driven by travel restrictions, quarantine arrangements, et cetera, that were implemented globally in response to the pandemic. Cargo, on the other hand, was a relative bright spot. So although cargo volume was down, cargo capacity is reduced as the passenger network is reduced because, under normal circumstances, about half of our cargo will be carried in the bellies of passenger aircraft. But despite the capacity reduction, yields were up very significantly. So revenue overall was up about 10% for cargo. And that represented really an imbalance between very strong demand and a relative lack of capacity as airlines around the world cut flights. On the cost side, net fuel was significantly down, consumption way down, obviously, but also interplane prices were down with the collapse in the oil price partly offset by hedging loss but still representing a net gain for us in terms of net fuel. And nonfuel costs per 80,000 were up quite considerably. Basically, when you reduce capacity reduction as dramatically as we did, our costs are not all variable, we have elements of fixed and semi-variable costs, which mean that we can't reduce costs in direct proportion to the capacity reduction. And as you would expect, we did everything possible to reduce all nonessential spend, including reaching agreement with Airbus to defer orders of A350 and A321neos, and we're still in negotiation with Boeing on deferrals of the 777-9 program. The half year result for Cathay also includes $2.5 billion in impairments at 16 aircraft, which are unlikely to reenter meaningful service, plus some of our subsidiaries assets. And the final point, as Merlin referred to, the recapitalization program completed successfully yesterday. So obviously, we're very thankful, very grateful to all shareholders and the Hong Kong government for their critical support during this difficult period. So this next slide shows key financial data and operating statistics. I won't go through line by line but just to highlight a few key numbers. Passenger revenue down 71%, but cargo revenue, as you can see, up 10%. So if you look at the cargo statistics in the right-hand column, you can see that the cargo revenue was driven by a combination of lower volume but very significantly higher yield because of the imbalance in the market. And overall, an attributable loss of $9.865 billion for the half year.

Merlin Swire: Okay. Thank you, Pat. So just quickly on HAECO, the headline number is very similar to last year, but there's a lot of variance within the different operating divisions. Perhaps if you focus on that table at the bottom left, I'll just talk through it quickly. HAECO Hong Kong saw a big reduction in profitability driven primarily by the line services business in Hong Kong where there was dramatically reduced demand. You can see that in the chart on the right. The yellow line shows line service movements which is predominantly in Hong Kong, and that's had a big impact on profitability. HAECO Americas, which has been losing money for a number of years, reported a profit in the first half. That's not primarily driven by demand and work, which has been weak, as you would imagine, but reflects the fact that we did receive quite a lot of financial support from the U.S. government and that, that has been largely booked in the first half. HAECO Xiamen and TEXL, our GE engine shop in Xiamen, are both down somewhat, reflecting customers choosing to defer maintenance to a certain extent. But HAESL in Hong Kong, which is the Rolls-Royce engine joint venture, has continued to show growth. There has been a big backlog of engines requiring maintenance. And as we look forward into the second half, there are some problems with the Rolls-Royce XWB engine, which should lead to continued decent workload in that shop. So overall, it's been a decent first half, but I should caution that in any case, when you have a big reduction in commercial airline operations, there is a lag effect before maintenance starts to slow up. And for HAECO, we are very dependent on wide-body business rather than narrow-body business, and we do expect international wide-body travel to recover more slowly than narrow bodies, which tend to operate within domestic markets. So the outlook for the second half is not as promising as for the first half as we see that lag effect starting to come in. Over to you on the Beverages.

Patrick Healy: Thanks. So profit at Swire Coca-Cola increased by 26%. But as Merlin explained earlier, that's actually a 14% increase if we back out the impact of some one-off tax payments in the U.S.A. from the prior year. But I think even at that 14% level, in view of the very challenging conditions for the first half of this year, I think that represents a very strong performance by the operating teams. I think the profit increase of 12% in the Chinese Mainland is especially worth noting when you consider that Wuhan is in Swire Coca-Cola territory, so our teams were very much at the epicenter of the outbreak in the very early days of the pandemic and dealt with that situation with real professionalism. Revenue overall in China, down slightly but more than offset by cost savings, and so a strong result in the Chinese Mainland. Hong Kong was the worst hit, in fact, of all of our markets in, obviously, very soft economic conditions. The Retail economy really still reeling from the social unrest in the second half of 2019 and then compounded, obviously, by the impact of COVID-19, including the lack of visitors, which the pandemic has resulted in, who are obviously an important contributor to many of our customers and channels. Taiwan, as a market, was relatively unaffected. So we were able to continue the quite impressive growth momentum that we've driven, I think, consistently in that market in the last few years. And in the U.S.A., the results skewed by that nonrecurring tax payment from last year. But even without that, a strong performance in the U.S.A. with good revenue growth that we'll come to on a later slide. The final bullet point there is to make the point that, yes, of course, we've been focused on cost savings in view of the disruption and the downturn that we faced in several of the preceding months. But what we haven't done is to slow down on any critical investments, which are important for our future long-term growth, so infrastructure investments. So if you say cold drink equipment placements in the Chinese Mainland, for example, despite the huge logistics disruption that we faced, all of our cold drink equipment placements remain on track according to our previous plans, which, again, is an impressive performance by the team. This shows, firstly, the breakdown of attributable profit by region. So strong growth in the Chinese Mainland and Taiwan, as you can see, driving that overall growth in attributable profit. And if you look at the circular charts on the top right, you can see the impact of strong revenue growth in the U.S. So the U.S.A. now accounting for 37% of overall revenue in the division. And bottom right, I think it's also worth noting the solid growth in EBITDA and good growth in EBITDA margin, so a 1.3 percentage point improvement to 11.3%, EBITDA margin being a key metric for us as we seek to grow value over time. And then one final chart, just a couple of points to highlight here. First, the fact that we continue to see revenue growth outstrip volume growth very consistently across all regions. And that's very much the result of a consistent specific strategy to grow revenue faster than -- faster than volume by managing the brand and package mix and pricing strategies. And secondly, EBITDA margin, as I mentioned, so good improvements, especially driven by improvements in the Chinese Mainland and Taiwan.

Merlin Swire: Thank you, Pat. Well, turning to Marine Services. It's been a very, very frustrating time for the team at SPO, who've been doing a fantastic job in very difficult circumstances. The first quarter was really encouraging for the business. We were continuing to show growth in revenue as the recovery was taking shape, and then things changed very quickly once COVID had the dramatic effect on the oil price that it did. And we've seen exploration and production companies canceling projects, deferring projects. And this has again retarded our view of when the recovery in this sector is going to be fully present, and that's what's driven the further impairment. Business is reacting to this. We're planning to put at least 28 of our vessels into stack by the end of the year. We've regrettably had to make a number of redundancies, and we're continuing to manage the business as tightly as we can for cash. But I can't deny, it's very disappointing.

Michelle Low: For the Trading & Industrial Divisions, there we recall a recurring loss in the first half, and this has been disappointing. And if you look across the various companies, the bright spot is the Taikoo Motors in Taiwan, which continues to recall an increase, and this performance is relatively stable. And also for the first time, we included health care, which Merlin has alluded to. We invest in the health care 13% share. We account for our associated company, and for the Retail business, for Swire Resources, in fact, that's the worst affected because of the COVID-19, that Retail business.

Merlin Swire: Okay. Well, I think we can probably go to questions now. I have a slide here that lays out the outlook as presented in the documents you've got with you. Why don't I leave that on screen rather than going through it, and we'll take questions.

Cindy Cheung: Thank you, Chairman. Members of the audience can submit your questions by clicking the Q&A box at the bottom of the window. So we will now begin the Q&A session.

A - Cindy Cheung: The first question comes from Jonathan Galligan of CLSA. It's about Columbia Healthcare. Can you give us more detail on the Columbia Healthcare asset and what it does? What was the financial consideration, and what stake do you have in the business? And also, are you a passive investor? Or is there a more active role in managing the business?

Merlin Swire: Okay. Well, the stake is a 13% stake, and the total consideration was USD 70 million, of which I think USD 56 million has been paid another USD 14 million to come. As I said earlier, it's a very focused health care business just in the Yangtze River Delta in Shanghai and the surrounding cities with hospitals, both general and specialist hospitals, with clinics and with elderly care homes. What we like about it is, of course, the sector but also the quality of the other investors in that business. Temasek have got a lot of health care businesses invested in China and elsewhere and are a very strong shareholder for the business. And Columbia brings a lot of expertise. So we don't have a management role. It is a passive investment, but we have good visibility on the business, very good relationships with the other shareholders. And we hope that through this investment, we can learn a great deal about the sector through an investment in a business that we very much like the look of.

Cindy Cheung: The next question is from Adrian Ahn, an individual investor. Given the subdued share price in Swire Properties, is there any consideration for privatization?

Merlin Swire: We have no such plans.

Cindy Cheung: Right. So next question is on dividend. Will there be a change in dividend policy due to the economic recession?

Merlin Swire: Well, I don't think there will be a change to the policy. Our policy is clear that our goal is to have sustainably growing dividends and to pay out half of our earnings over the cycle. We've done that over the last 5 years. If you look at our payout ratio for the last 5 years, it's around 48%. And over the long term, it will remain our policy to try and do the same thing. I mean for now, 2020 is a very unusual year. It's creating all sorts of unusual outcomes in our P&L. And we'll have to see where we sit at the end of the year. And when we come to look at the final dividend, we'll be guided very much by the outlook at that point. We'll be looking forward rather than back. What state the business will be in -- how confident we can be in an economic recovery, it's too early to say. But our fundamental policy is not likely to change.

Cindy Cheung: The next question is on Beverages. The Beverages business in China has recovered strongly in the second quarter. Can you give more color to the recovery?

Merlin Swire: Pat?

Patrick Healy: Yes, sure. Yes. It was a -- obviously, the first 2 months of the impact post-COVID, really, so February, March, pretty much the period immediately after the Chinese New Year festival, was extremely challenging. As I mentioned, we have the bottler in Wuhan, and so the impact on the team in Hubei was extreme and, obviously, very distressing at that time. They did a wonderful job really focusing on safety and health and well-being of their staff and their communities and came through with a very small number of people impacted directly by the epidemic. I think that the -- what we saw during that period were some pretty dramatic channel shifts, as you would expect from rapidly changing consumer behavior, certain channels effectively just closing down, restaurants, et cetera, entertainment venues. Whereas the online channels, so e-commerce of consumable goods and also supermarkets, saw relatively strong growth. And so the recovery picture really varied from channel to channel. But I would say that by around the end of May, sort of mid- to end May, the overall revenue performance was very close to prior year levels. We still saw differences in the channel mix and also differences in the package and brand mix. There was a much stronger showing for sparkling beverages, for example, relative to other categories. But certainly by the early summer, we were back on track versus prior year performance.

Cindy Cheung: Thank you. So the next question, in the current environment, are you going to take advantage of potentially depressed valuations to acquire businesses in other various markets?

Merlin Swire: Well, I think the first thing I would say is that we do have the financial strength to do so, notwithstanding the pressure the group is under and the very poor earnings. The balance sheet is really very strong, gearing at 15%, 16% and huge amounts of liquidity both in Swire Properties and at the center. I think we're going to be disciplined. We're going to focus on our core businesses in terms of investment in the coming year. Having said that, we have great opportunities in our Property business in China. I know I've been saying that for 18 months now, and you haven't seen much yet. But we're continuing to pursue some really interesting opportunities there. And I think the brand that -- and reputation that Swire Properties has built in China, with consumers, with city governments and with luxury brands, is getting stronger and stronger every year. And I think it's giving us access to lots of high-quality opportunities. That's not to say they will necessarily be at depressed prices, but we are very focused on investing in really high-quality assets. And so we're not going to be chasing opportunities just because they're cheap.

Cindy Cheung: Right. The next question is from Karl Choi of Bank of America. What kind of oil prices do you think is required to stimulate demand enough for SPO to turn around? And any plan to dispose the unit when market conditions have recovered enough to redeploy capital?

Merlin Swire: Well, on the question of what oil price is required, it's a very difficult question. I mean we were seeing a strong recovery, a steady recovery in the business last year and in the early part of this year when the oil price was $55, $60, $65. So that's the sort of level at which I think we would begin to feel confident again. And of course, for every year, every 6 months that goes past where there isn't a big recovery in offshore oil demand, the risk of oil supply shrinking, in a way that creates a price spike, increases. So we still think we're going to see a decent recovery in offshore oil demand within the medium term. It's very hard to predict when. As I said earlier, I think the business has very high-quality assets. We're making it leaner. We're selling old, less effective vessels. And I think the business will be in good shape to serve the industry when the recovery comes.

Cindy Cheung: Next question is the last question, it's from Total Capital. How should we be thinking about the buybacks? Could it be a consideration in the second half if we see improvement in operating performance? And what are some of the factors that would drive the decision to conduct buybacks in [indiscernible] as against in Asia?

Merlin Swire: Michelle, I think I'll leave you to answer that question, please.

Michelle Low: Yes. In fact, this question has been asked quite a few times here. In terms of the share buyback, we are always of the view that this is one of the options for capital deployment. And we have been assessing the various investing opportunities and also against share buyback. And at this point of time, we are still considering that we wanted to reserve firepower for our -- investing into new projects or new acquisitions.

Cindy Cheung: Okay. Thank you. So thank you, Chairman. Thank you, Pat and Michelle. And all -- thank you all for your questions. A copy of the slides will be made available for download in our IR website later this evening. So this concludes the Swire Pacific 2020 Interim Results Analyst Briefing. Thank you, again, for joining us.