Gerdau S A : Transcript 1Q 2024

Conference Call Transcript

Gerdau

1Q24 Results

Renata Oliva Battiferro:

Good afternoon and welcome to Gerdau's conference call with the results for 1Q24.

My name is Renata, I am the head of Investor Relations. Here with us today are Rafael Japur and Gustavo Werneck.

We would like to inform you that this video conference is being recorded and will be available on the Company's IR website, where the entire material is available for download. It is also possible to download the presentation using the chat icon.

I would like to remind you that the broadcast of this video conference is being done with simultaneous translation using the tool available in the platform. For that end, just click on the interpretation icon using the globe icon that is in the lower part of your screen and then choose the language of your choice, Portuguese or English.

For those of you listening to this video conference in English, you have the option to mute the original audio in Portuguese by clicking on "mute original audio". During the Company's presentation, all participants will have their microphones disabled.

After that, we will initiate the Q&A session. Analysts and investors can send in their questions in advance using the Q&A button and you can open your camera, if you so desire.

The business outlook and goals of this presentation are based on beliefs and assumptions of the Company's management, as well as information currently available. Forward-looking statements are not guarantees of performance and depend on circumstances that may or may not occur.

Investors should understand that general economic conditions, market conditions and other operating factors could affect the future results of the Company and may differ substantially from those expressed in such overlooking statements.

Now, I would like to turn the floor to Gustavo Werneck to initiate the presentation. Gustavo, you may proceed.

Gustavo Werneck:

Hello, everyone. I hope you are well. Thank you for the opportunity to meet with us during this video conference to discuss Gerdau's results for 1Q24. I am joined by our CFO, Rafael Japur, and it is always a pleasure for both of us to talk to you about our performance and to clarify any points that may arise during our presentation.

I will start by talking about the macro business environment and the highlights of the overall results, and then I will detail the performance of our business operations in the quarter. Right after that, Japur will share with you some information on our financial performance. Finally, we will highlight some points from our sustainability agenda and then we will move on to our Q&A session.

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But before we move on to the presentation of our results, on behalf of all of Gerdau's employees, I would like to express our solidarity to the population of Rio Grande do Sul, which is going through a very difficult period due to the intense and heavy rains that have hit the state since the beginning of the week.

Gerdau, a company originally from Rio Grande do Sul, is providing all the assistance needed and we are supporting our employees and neighboring communities in mitigating the damages. The Company maintains an open dialogue with the competent authorities and we will spare no efforts to stand side by side and meet the needs of the population in this challenging moment.

On this second slide, I would like to point out that we ended 1Q24 with an accident frequency rate of 0.47 reinforcing our commitment to people's health and safety. At Gerdau, safety always comes first, since no result is more important than people's lives.

With this in mind, I would like to point out that in April, in celebration of World Safety Day, we held a number of workshops, seminars and activities at all our plants and corporate offices in the countries where we operate to share lessons learnt and reinforce our culture of active care and safety, focused on monitoring critical activities and accident prevention.

Over the next three slides, I would like to emphasize that Gerdau continues to differentiate itself by delivering solid financial results to its stakeholders and by pursuing a transparent business strategy, based on strong discipline in cost management and the continuous improvement of the competitiveness of its assets. We continue to look for opportunities to adapt the Company's structure to the current business scenario.

Furthermore, I would like to highlight the growth in steel exports from China throughout the first quarter as the main factor impacting our business in the markets where we operate. The growth of the Chinese economy, whose GDP rose by 5.3% in the first quarter, was also accompanied by an increase in exports of 5% in the same period.

At the same time, the infrastructure and residential construction segments in that country continue to lose prominence as drivers of the local economy, which has resulted in a significant imbalance between steel supply and demand in the Chinese domestic market.

Steel exports rose by 25% in March to almost 109.9 million tonnes, and in the quarter, the increase was 31%, reaching 26 million tonnes, negatively impacting the world steel market, since the surplus steel production intended for export has been subsidized by the Chinese government.

In this sense, I would like to acknowledge the Brazilian government for its recently announced trade defense measures, aimed at defending the Brazilian steel industry against unfair competition from imports, along the lines of initiatives already taken by other countries such as the United States, Mexico and the nations that make up the European Union.

The establishment of a mixed system on 11 NCMs (Mercosur Common Nomenclature), with import quotas, which, once reached, are subject to an import tariff of 25% for anything above this ceiling, is an important step forward in terms of competitive equality and covers around 25% of the product mix sold by Gerdau in Brazil.

I would also like to stress that the trade defense measures announced are a first step and do not fully solve all the challenges faced by the Brazilian steel industry. We will continue to monitor the real impacts that this trade defense initiative will have on the domestic market in the short term

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and move forward with requests for anti-dumping analysis with the appropriate agencies.

Moving on to slide six, I will talk about the highlights of each of our business operations and the outlook for the coming months.

On the next slide, in 1Q24 we saw a recovery in shipments and in the performance of the North America Business Operation compared to the previous period. This performance reflects the resilience of the North American market, which contributed to keeping local demand for steel at healthy levels, with our backlog stable at a high level of around 55 days.

The US market continues to be positively impacted by government measures, such as the Inflation Reduction Act (IRA), the reshoring movement and the maintenance of Section 232. We continue to invest in improving operating efficiency and modernizing our units in North America, in order to provide a portfolio of innovative products and solutions that meet the current and future needs of our customers, such as the future demand for steel linked to the large investments planned in infrastructure in the country.

I would also like to highlight the modernization of the Jackson plant in Tennessee, which will further increase the plant's competitiveness and will become an even more relevant service center for our customers in the region.

Moving on to the next slide, I will now talk about our Special Steel Business Operation. The automotive market in the United States continues to recover gradually, with production of light and heavy vehicles projected to be above 16 million units in 2024, with normalized inventory levels. There is still room, however, for a more intense recovery in the coming years, returning to pre-pandemic levels.

In addition, I would like to report that we are starting feasibility studies for the construction of a greenfield unit for the production of special steels in Mexico. This move reflects the positive outlook for the local automotive industry and the nearshoring movement in the United States, which have had a positive impact on the performance of the Mexican economy.

In turn, the outlook for the specialty steel market in Brazil is a little more optimistic, as a result of some signs that point to a recovery in automotive activity, especially in the heavy segment. Truck production in 1Q24 exceeded 29,000 units, up 19.7% on the same period of 2023, according to Anfavea data. For buses, the increase was 61.6%, with 6,500 units manufactured. The market, however, remains attentive to the uncertainties still linked to access to credit high interest rates and excessive entry of imported vehicles.

Moving to the next slide, I will now talk about the long and flat steel market in Brazil, whose performance in 1Q24 continued to be impacted by the strong influx of imported steel in the country, since the trade defense measures I mentioned earlier had not yet been announced. Between January and March, imports reached 1.3 million tons, a 25% increase compared to 1Q23, according to data from the Brazil Steel Institute. In March alone, volumes of imported steel jumped by 46%, leading to a penetration rate close to 20%.

I would also like to comment that we continue to expect the development of some positive indicators for the Brazilian market, especially with regard to the construction industry, and a more significant drop in interest rates. One example is the federal government's signaling that it will introduce measures to release around R$300 billion for real estate loans, which should help boost this market.

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We now move on to the next slide to talk about the South America Business Operation. I will start by saying that we completed the divestment of our operations in Colombia and the Dominican Republic during 1Q24, as part of our capital allocation strategy, which focuses on the growth and competitiveness of our assets with the greatest potential for generating value in the long term.

In Argentina, on the other hand, inflationary pressure, import restrictions and the economic measures taken by the new administration, such as the devaluation of the Argentine peso, remain points of attention for the performance of the local market in the coming quarters.

Uruguay's scenario remains positive, reflecting good levels of steel consumption, particularly in the agribusiness sector, and by public and private investments.

In Peru, meanwhile, GDP rose by the most in 20 months in February, boosted by a good performance in the mining and construction sectors, especially public works.

I will now hand it over to Japur. Then I will be back to talk about our ESG journey and answer your questions.

Rafael Japur:

Thank you, Gustavo. Hello, everyone. It is always a great pleasure to be here with you as we announce Gerdau's 1Q24 results.

With regard to financial results, we ended the quarter with an EBITDA of R$2,813 billion, with a margin of 17.4%, 3.5 percentage points higher than the previous quarter, as we can see in the left graph. The growth in EBITDA in all Gerdau's business operations was driven mainly by the North American operation. In terms of shipments, we saw a significant upturn in North America, as well as an improvement in our mix in the Brazil operation, with lower export shipments and more deliveries to the domestic market, as shown in the graph on the right.

In addition to the more positive operating context, we recall that both revenues, costs and EBITDA for the 4Q23 had been negatively impacted by the currency devaluation in Argentina.

Let us move to slide 13. We ended the quarter with working capital of R$15,400 billion. Despite this 8% increase in working capital compared to 4Q23, it is important to point out that our cash conversion cycle fell to 86 days due to the 10% increase in net revenue, which boosted the Clients account.

When we compare our working capital with the same period last year, to take seasonality into account, we can already see a reduction of R$900 million. Looking at the graph on the right, we see that typically the first quarter of each year consumes cash due to the recovery of volumes.

Let us talk more about Cash Flow on the next slide. In 1Q24, we adopted a new Free Cash Flow model. The aim is to support reconciliation with the Cash Flow Statement of the Financial Statements and with our cash position at the beginning and end of each quarter.

As we saw in the previous slide, this quarter, we had a significant investment in working capital, totaling R$1.1 billion, combined with the typical end-of-year seasonality and the recovery of revenues and EBITDA in all our businesses.

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We executed our CAPEX in line with the plan, also disbursing R$1.1 billion.. As a result, we had a negative free cash flow of R$610 million in the first quarter. For comparison purposes, in the previous format, we would have had a cash generation of R$85 million.

On the next slide, we will talk about liquidity and indebtedness. Our liquidity stood at a robust R$10.3 billion and a gross debt of R$11 billion. Our leverage remains excellent, with a net debt to EBITDA ratio of 0.40 times.

In addition, during the second quarter, we plan to issue debentures in the amount of R$1.5 billion to roll over some short-term debts whose spread is currently above our cost of new funding, taking advantage of the good momentum and extending our 2024 and 2025 obligations to 2029.

Moving on to the next slide, let us talk about the return to our shareholders. Gerdau S.A. and Metalúrgica Gerdau will pay dividends on May 27th and 28th, respectively. Gerdau S.A. will pay R$0.28 per share, while Metalúrgica Gerdau will pay out R$0.19 per share. In both cases, shareholder positions as of May 15th, 2024 will be taken into account.

We would like to remind you that on April 22nd, Gerdau shareholders received a bonus of one new share for every five shares of the same type. Our shares have been trading at the price adjusted by the bonus since April 18th.

Now, let us talk about CAPEX. In 1Q24, our CAPEX investment totaled R$858 million, with 50% going to Maintenance projects and 50% to Competitiveness projects. To date, we have invested 41% of the R$11.9 billion forecast in Gerdau's Strategic CAPEX for the 2021 to 2026 cycle.

In the next slides, we will highlight some of these projects. In Brazil, we will highlight the sustainable mining and flat steel investments in Minas Gerais. Both projects are already significantly ahead of schedule, both physically and financially. We have already received all the critical equipment for our new mining complex in Miguel Burnier and is in full swing for it to start operating next year.

In the Ouro Branco unit, the expansion of the hot-rolled coil has already entered the assembly phase for the rolling mills and main engines, and is scheduled to start operating at the end of this year.

In North America, we would like to highlight the completion of the modernization of the rolling mill at the Jackson plant, in Tennessee, which will lead to greater competitiveness by expanding the product mix, allowing for a one-stop shop business model at this unit.

Thank you all for your attention. I will join you and Gustavo during the Q&A session.

Gustavo Werneck:

Thank you, Japur. In the following slide, I detail the progress we have made in our sustainability journey. Gerdau stood out as the B2B industrial company with the best reputation in Brazil, according to the 10th edition of the Merco 2023 Ranking.

The Company climbed ten positions compared to last year, reaching 24th place among the 100 Brazilian organizations evaluated. The Company is the only steel producer in the ranking and remained the leader in the "Mining, Steel and Metallurgy" category.

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The survey, carried out by the Corporate Reputation Business Monitor (Merco) Brazil, identified the top 100 companies with the best reputation in Brazil and involved more than 11,000 respondents. Merco's research methodology includes six evaluations with 25 different groups and sources of information, taking into account economic and financial results, the quality of the commercial offer, talent, ethics and corporate responsibility, the international dimension and innovation.

This recognition reflects our commitment to a continuous and transparent dialog with all our stakeholders and to strengthening the Gerdau brand's connection with society in general, and is the result of the efforts made by our more than 30,000 employees to build the Gerdau of the future.

I would like to thank everyone for listening to our comments and, from now on, we will be available to answer questions and to go into more detail on your points of interest.

Caio Ribeiro, Bank of America:

Good morning, everyone. My first question would be about the Brazil BD. I understand that, early this year, the Company's strategy was focused on capturing market share, but I would like to see if you see any room to increase prices along the following months and if you can tell us what kind of margin you could reach throughout the year in this segment, especially when the initiatives of cutting costs are delivered. I would be really happy with it.

Also, the initiatives to cut costs in Brazil is my other question, whether these will be enough measures to significantly reduce the pressure coming from imported goods and whether you could also anticipate price increases in the short run.

Gustavo Werneck:

Thank you, Renata, for the introduction and, Caio, thank you for your question. Japur, if you have anything to add, please do so.

This commercial defense was not a simple journey, we have been talking about this topic in the past quarters and months. And, in our view, there has been a positive advancement. Finally, the Brazilian government heard the claims from the steel industry and it gave a first step, given that it allows us to evaluate, in more detail, what would be the performance from now on. From this point forward, we will make adjustments to this mechanism so that, in the coming months, we will have a more fair competition scenario.

In this first measure, I think the main question from the industry was not particularly the fact that they consider this time period between 2020 and 2022, but they also added that additional 30%. We understand that this followed a certain appropriate methodology, and the question that usually appears is why is it that that 11 NCM was more focused on flats rather than long steels, because flats were the main products that had a more aggressive penetration in the market during this period, between 2020 and 2022.

But there is a very clear commitment on the part of the federal government that, as other products, including long steels, as imports increase along the coming months, new measures and new NCMs may be put in place.

Therefore, in general, it was a very positive measure and the government also took into account

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claims from other sectors that initially were against it. And I understand these sectors. As I was saying before, it was just a matter of time that these Chinese imports would also have an impact on other industries in Brazil, and this is what happened.

Consequently, there was a general consensus from the industry that if Brazil were not to fight the entry of imported goods, not only in the steel industry, but in other industrial segments, this could become a very difficult problem to manage. For this reason, the measures were considered very positive.

We do not believe that in the short term, this would be translated into a significant price increase or the rebound of profitability. So, in the next few months, the pricing issue will be mostly related to getting more competitiveness related to coal or other raw materials and factors that now can also impact price. But there will be no short-term measure or pricing or increase in import premium.

I believe that the major gain to be captured in the next few months will be an increase in production in the domestic market. These would be like material gains going forward.

Now, market share in 1Q24, as we mentioned, was not a specific recovery strategy or measures to recover market share in a particular quarter, because, at the end, it is related to something that I have been telling you before, because we are putting a greater focus on the domestic market.

The production capacity that we had and still have in Brazil for export, I have been telling you that this will no longer exist in the future in Brazil. It will be more and more complex for us to export from Brazil. Therefore, this market share that we mentioned in the first quarter is more related to a more intense focus on the Brazilian market. So we will gear that export capacity to new products and new things that, with time, can generate new investments, particularly in Ouro Branco, of our export capacity.

So it was just a consequence of our mid-to-long term strategy rather than some one of actions in the first quarter just to recover market share. In general terms, this is what I would have to say. Japur, if you want to add anything, please jump in.

Rafael Japur:

Caio, good afternoon. In addition to what Gustavo said, I must say that we were very pleased with that measure. It was a major progress, because we worked together with the government for a few months and that ended up in these measures, which can help us to increase our operating leverage with increased sales volumes and increased shipments.

We saw, particularly in the last quarter, an increase in imported goods to the domestic market, so we understand that this new measure will help us have a more reasonable market when we think that there was an increase of almost 10% percentage points of penetration of imported raw materials when compared to the numbers we had last year.

Rodolfo Angele, J.P. Morgan:

Hi, thank you for your time. Two of my questions have already been answered, so I only have one question left. I would like to ask you to elaborate a bit more on that Mexico project. Can you give me some more color, tell me a little bit more about the rationale? Is there anything you can tell me in addition to the article that was published on O Estado de São Paulo, about the CAPEX of

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R$ 500 million, something in that order, so that I can check my economics of this new investment?

Gustavo Werneck:

Let me start with the concept behind it. Rodolfo, as you know, we have been operating in Mexico for some time. We are quite aware of everything that is happening in Mexico and in the United States, so it is very impressive to see all of the investments that have been announced in Mexico, more particularly investments from the automotive industry.

If you look at the segments we serve today, large structural profiles and rebars, there were months in Mexico that there was a scarcity of rebars, and we have been visited by some clients and they have been consulting us. Therefore, they are building new productive capacities in Mexico and all of that to cater to these new investments in Mexico from Tesla, BMW, etc.

And even though Mexico is where it is today, they import special steels today. With our investments in Mexico and with the platform that will be able to serve that automotive industry in the near future, I would say that we are highly motivated to increase our productive capacity, because there is a market and there is demand.

Therefore, now we are engaged in a more detailed feasibility study. Throughout this year, we will continue with that study, that should be concluded by the end of the year, and then we will make a final decision to be submitted to the board by the end of the year. So, starting 2025, if it is approved, we will then mobilize the resources to start with our new capacity in Mexico in 2026.

We do not have all the members yet, but Japur has some things, so maybe I will turn the floor over to him so he can give you a little bit more color.

Rafael Japur:

Hi, Rodolfo. I can shed some more light to some of the points that Gustavo mentioned. The Mexican market imports still, the market is about 1.2 million tons. It is a significant market, but they import 70% of all of the materials they need for auto parts. But, at the same time, they are the largest exporter of auto parts to the US.

We are already participating in some operations in Sahagún, Tultitlán e La Presa, but, in addition, we sell a significant amount of special steels to Mexico from our operations in the US and Brazil. Therefore, we already have a good footprint in Mexico with important clients.

Therefore, part of our rationale is based on that, and also due to our expertise with special steels in North America and our knowledge of the Mexican market. So, for the next coming months, until the end of the year, we will take a deeper look into the economics to find what would be the best location, so we have to make decisions related to partners, supply chain and important customers that are investing more heavily in Mexico, also taking into account a more detailed analysis about costs.

Last time we looked at Mexico was 10 years ago, with our land in that country. Therefore, it is important that we look at CAPEX and costs, until we have the approval and we see some concrete returns.

Finally, between opening and disclosing the study to customers in the market in general, in addition to being in line with our assumptions and our transparency towards the market, we should

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have some constructive conversations with our customers to understand what would be the ideal product mix that they will demand, in view of the investments they themselves are contemplated.

In special steels, once we certify a product, we are certifying a platform that will consume steel five years into the future, once we get into production. Therefore, this investment has to be well coordinated with the entire supply chain, where it is not simply to sell it for distribution.

Gustavo Werneck:

I just have a final comment. The amount that you mentioned that was published is a market reference, it is not an internal number that we have. We are conducting studies to understand what are the synergies that can be captured with our current operation. We have not yet announced any specific location where the productive capacity will be installed, we are still in negotiations with the local government.

For that reason, it will be a bit premature to tell you what the amount of the investment will be, but in order of magnitude in looking at all the geographies, it is within that range that was mentioned by the press. I think they got that amount from other investments we made in other geographies, but this is not yet the final amount.

Rodolfo Angele:

Gustavo, I just have a very quick follow-up. The chance of being a ground field is zero, right? We are talking about a new plant; you will not operate as part of a unit that you already have.

Gustavo Werneck:

No. Special steel investments, Rodolfo, are very different from traditional investments or long steel investments. Just to certify a plant like that to start supplying to a customer takes two years, and that requires a very specific expertise. It is not for anyone to do it. And this synergy will come from the acquisition of scrap and other synergies, but definitely not using any existing plant.

Márcio Farid, Goldman Sachs:

Hello, Renata, Gustavo and Japur. Thank you for your time. I guess that 1Q24 numbers were even better than expected, but, in our analysis, at least a good part of the surprise came from cost reductions. I think volume remains relatively weak in most divisions, but particularly for long steel in Brazil. So, my question is: how do you see this volume improvement?

Gustavo, you spoke a little about Brazil and how revenues and tariffs can help, but if you could speak about the other regions, particularly the US.

Also on the cost front again, you spoke a little about some improvements via raw material, but is there any room to deliver a greater profitability, perhaps in the Brazil operation?

And where are the main points of attention? Where are you putting more effort? Perhaps you could quantify these efforts for us. The US, unlike Brazil, continues to be a positive surprise, and I think that recently we saw a little discount from Nucor and perhaps for merchant bars as well. So, could you speak about how you see the North America market in the margin?

Also, about CAPEX execution in 1Q24. When we analyzed the number, it was way below the

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annual guidance. I just want to understand it. Japur, perhaps you could give us more color on how you expect to spend the CAPEX during the year.

Gustavo Werneck:

All right, Márcio, I will try to talk about the concept and, Japur, then you speak about the numbers and costs.

Let us start with North America, Márcio. It is all very solid. The orders keep coming. Our backlog is very stable. Still in the backlog, we do not have great orders related to the infrastructure bill. That is coming, but slowly.

Of the things we had not understood. At the time, we thought that this was going to come faster, but there is a matter of state funding and project execution, so it took longer than we expected, because it has been a while since we had such a big infrastructure package. Therefore, it is starting to come, but it is not that representative to us.

It is certain that the backlog continues high. What we see in the present is the IRA orders for merchant bars that service racks for solar panels. So we have a backlog and orders coming and prices will fluctuate up and down, because of scrap, which will probably maintain the current level of spread.

All of the initiatives in the last five years of preparing our mills to compete head to head with our competitors has translated into positive benefits in terms of improved costs and more competitiveness.

I think that, for five years, we did well executed work that put us on equal footing with North America competitors, and we have the certainty that in the next quarters, perhaps years, the margins we are seeing will remain. We do not see any clouds in the horizon that could challenge the results that we delivered in North America.

Márcio, regarding Brazil, Japur will give us the numbers, but I would like to mention some points. Number one: we are not going to cancel or postpone any of the investments already announced in Brazil, particularly for mining in Ouro Branco. We understand that these investments advance independently of China and trade issues. They are more related to the relevant transformation that we are going to have, so that we can get out of Brazil a historical productive capacity for exporting.

In the next 10 years, we believe that the windows may be closed. Perhaps one quarter or another will have a spot opportunity to export, but this market has been closing and it will continue to be closed for a long time, so we need to transform this exporting capacity redirected to the domestic market with higher added value products.

That is why we are investing a lot in mining, so that we can supply for the next 40 years in the coil, the hot-strip rolling mills that will start operating, all of that so that Ouro Branco will not be working for exporting, so we are maintaining these investments.

The trade defense measures will help us have more volume in the currently operating mills and plants. This will help us dilute fixed costs and improve operations, but there is another transformation we are still looking at. We do not have details to disclose right now, but it will happen.

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